Demon-etisation: India opens with a fanfare the ball of the fiscal QEs


Since November 8, 2016, India has created a monetary revolution of a magnitude never seen, both by the size of the population concerned and the depth of the transformation induced. By demonetising the biggest notes of 500 and 1000 Rs (rupees), the Indian government is trying to reintegrate into the official economy the state’s gigantic parallel (or black or more simply the archaic) economy. In a nation where 90% of the transactions are made in cash, a huge part of the financial activity escapes the knowledge of the central government, and therefore statistics, taxes and infrastructure financing.

fig-1Blue: volume; red: value. Source: Bloomberg.

Warning signs

There is nothing new in the fact that the central government tries to force its population to declare their wealth. For example, between 1951 and 1997, no less than ten amnesty projects had been launched, encouraging citizens to declare their unofficial income in exchange for a simple payment of some increased tax[1].

When Narendra Modi came to power on May 26, 2014, his programme spoke of modernisation of the country according to the neoliberal principles of privatisation and deregulation. But the tone, in that respect, has changed around the world. In India, as elsewhere, investment in infrastructure, Keynesianism and taxation have become much more important than monetary easing and indebtedness. Thus, in November 2015, Modi began to put in perspective a new form of modernisation, based on a very ambitious tax reform (JAM[2]).

On June 1, 2016, he launched his own amnesty scheme, or rather his income tax declaration scheme, asking Indians to take advantage of this period to declare their unofficial liquidity imposing a tax of 45% instead of the usual 30%[3], lasting for three months.

The detail of the demonetisation process

But the operation of demonetising the 500 and 1000 Rs banknotes on November 8 (in the middle of the US election) over a period of 50 days (until December 30) was not expected. This produced a real shock, especially knowing that these notes account for 86% of the liquid circulating in India; meaning an amount of Rs 14 lakh crore (or 14 trillion rupees[4]) being withdrawn from the cash in circulation.

From 8 to 24 November it was foreseen that any person exchanging or depositing amounts of more than 250,000 rupees (Rs 2.5 lakh) without being able to justify them would pay double the normal (30%) tax on these sums, as well as a fine of 200%. During this first period of the measure, masses of notes were thus purely and simply burnt.

But on November 29 the Lok Sabha (Chamber of Representatives) judged this rule as legally unfounded and voted an amnesty decree allowing people to declare amounts above 250,000 rupees on a payment of a tax of 50%. The remaining 50% are thus reintegrated into the white economy. But that is not all, half of this laundered sum (25% of the total) is blocked in a bank account in the form of lock-ins, or bonds, for four years … at the end of which the money will be recoverable with interest (unlike the nest eggs)[5].

A vast chaos followed. The shocking announcement provoked a rush to the banks to exchange these notes or deposit them. In a week, the Indians had deposited 2000 billion rupees in the banks[6]. But half of the Indian population, despite numerous incentive campaigns, do not hold a bank account[7]. These 600 million people are forced to queue at the bank’s counter to exchange their notes, causing liquidity shortages, resulting in agency closures and interruptions of cash distributing machines[8].

As a result, the announcement was followed by times of panic (which seem to begin to settle down): people no longer had cash to go shopping, forcing stores to close and preventing farmers from selling ​​their products[9]. Consumption literally collapsed and the poorest (especially in rural areas) have been hit the hardest[10]. The financiers of the world anticipate less growth and GDP points. Currently expanding to more than 7%, Goldman Sachs announces 6.8% in the next quarter, Deutsche Bank, 6.5%, and Ambit mocks everyone by evoking 3.5%[11].

The opposition to the nationalist Modi is unleashed. Rahul Gandhi threatens to make revelations in Parliament about a corruption case involving the Prime Minister[12]. The former prime minister and architect of the economic reform, Manmohan Singh, speaks of “monumental management mistakes“, and “a case of organised loot and legalised plunder” and a risk of losing 2 points of growth[13].

fig-2Cash machine situation in India. By days in 2016, light blue = line of more than 15 minutes; grey = no more available notes. Source : ZeroHedge.

States are complaining of shortfalls in their budgets resulting from the temporary economic halt and are taking advantage of it to block the major tax reform plan to bring India into the 21st century: the Goods and Services Tax (GST[14]).

The Indian super tanker sways hard, but everyone is aware that such a measure can not be applied to a nation of 1.2 billion individuals without causing an uproar.

But what if it worked?

There have already been demonetising actions of this kind, many of which were total failures. Particularly: the Nigerian case (1984, failed); Ghana (1982, failed: people turned to foreign currencies and physical assets); Myanmar (1987, failed: it led to riots and repressions); Zaire (1990, failed: it caused inflation and a collapse of the local currency against the dollar); North Korea (2010, failed: combined with a poor harvest it lead to food shortages); Soviet Union (1991, failed: it caused a loss of confidence and the eviction of Gorbachev) [15].

What are the elements which lead our team to anticipate a success of the Indian operation? … (Read the entire report in the GEAB 110)


[1]  Source: Economic Times of India, 10/03/2016.
[2]  Jan Dhan: Bank Accounts; Aadhar : Personal identification; Mobile: mobile phones. Source: Zeenews, 06/11/2015.
[3]  Source: The Indian Express, 21/07/2016.
[4]  This is the occasion to get used to Indian notes. Indians do not like zero, even if they invented it, and speak in rupees (Rs, the base unit), in Rs Lakh (meaning 100 000 rupees) and Rs Crore (meaning 10 000 000 rupees). Currently the 500 rupees notes correspond to 7 € and 1000 rupees to 14 €.
[5]   For a better understanding, read this article. Source: BeMoneyAware, 28/11/2016.
[6]   Source: India Times, 13/11/2016.
[7]   Source: The Indian Express, 10/11/2016.
[8]   Source: The Wire, 11/11/2016.
[9]   For example, Kerala. Source: OnManorama, 13/11/2016.
[10] Source: The Wire, 13/11/2016.
[11]  Source: Quartz India, 06/12/2016.
[12]  Source: NDTV, 15/12/2016.
[13]  Source: The Indian Express, 24/11/2016.
[14]  Source: Business Standard, 08/12/2016.
[15]  Source: The Economic Times of India, 16/11/2016.