Home / News / Political and Monetary objectives behind demonetization

Political and Monetary objectives behind demonetization

dmokaaBy Syed Zahid Ahmad –

Surgical strike was upon black money or Indian economy?

On 8th November 2016 breaking news flashed by media describing demonetization of Rs. 500 and Rs. 1,000 notes as surgical strike on black money. We were told that it will burn all black money and suppress those who are funding terror activities. Just after one week it was claimed that terror activities have been stopped. But after two weeks when two Militants were found killed in Kashmir having two new Rs. 2000 notes, we can say that demonetization is failed to stop terror funding. Still after 15 days there is no specific report on impact of this surgical strike upon black money; rather media is busy to either cover news about harassment of general people to exchange currencies or are casting news about slowdown of economy. Now we are unable to judge whether this demonetization was surgical strike upon black money or upon individual poor units of Indian economy because every Individual worker is integrated unit of our economy; and only their collective efforts make the economy shine or doom. So suffering of 90% workers is meant for suffering of our economy.  We are afraid this demonetization may kill around 4,00,000 crores of value addition compared to fetching 40,000 crores black money captured during hunt for black money.

Political and Monetary objectives behind demonetization

After observing the demonetization creating political battle between the Government and united opposition, our Prime Minister has stated that 90% public reaction is in favour of demonetization, but he intentionally avoided saying that these 5 lakh respondents are savvy to digital world and supporter of his party. Unfortunately the actual sufferers of this demonetization are not used to respond through mobile apps, but through electoral ballot. Before we submit our feedback, it is time we should try finding the hidden and declared political agenda as well as monetary objectives behind demonetization. We should also analyse impact of demonetization to enhance transparency in our monetary framework and economic structure. Only then we may be able to submit our genuine feedback to honourable Prime Minister.

What is Black Money?

Was there really urgent need for surgical strike upon black money? What is black money? It is defined as income earned but not disclosed to the Government. Money cannot be black or white; rather it could be legal or illegal. How come people of spiritually rich nation like India are so immoral to earn illegal money? Actually it is human tendency to desire wealth and that could only be controlled through morality. With fall in morality we see rise of unethical and corrupt practices in India. The qualified and expert financial professionals including Chartered Accountants (CAs) are capable to guide people how to get escape from taxable regimes. What have been caught as black money during last 15 days does not exceed 33,000 crores. Considerably this amount is hardly 2% of demonetized currency notes. Was the intention of demonetization was meant to catch this 2% black money at all?

BJP came in Power with promise to control corruptions

After globalization the practice of corruption has been institutionalized with skill to manipulate transactional accounts. This not only promoted immorality but also devastated the required framework for good governance. They hardly realized that by guiding people to get rid of taxable regimes they are actually draining wealths from public to private treasuries. The Government initiated globalization for economic growth but in absence of proper checks and balances, we saw rise in corruptions. The rise in corruptions destroyed the image of the Government and ultimately the people decided to not re-elect it again. But we were not safe with just change in Government because we did not differentiate between immoral and illegal money. Thus in 2014 when the people of India elected Shri Narendra Modi as Prime Minister he was confronted with challenges to reduce corruptions in our economy.

Government was under pressure to control black money

After resuming power the new Government hardly take any drastic step to uproot the causes of corruptions, so it was obvious that after crossing half way of its tenure the Government was under pressure to convincingly work on curbing corruptions and generate prosperities for common Indians. Though our Prime Minister tried his level best to market Indian economy, we are still facing challenges to attract the potential investors. Despite attempts to get capital from countries like America, Japan, China and Saudi Arabia India failed to attract sufficient investments due to complicated regulations, heavy tax structure and prevalent corrupt practices in India.

Higher tax structure is root cause of black money

The complicated regulations and higher tax structure in India not only put hurdles to attract investors, but also create scope for corruptions in collecting public revenues. The people in India generally prefer to pay bribes to agents with intention to get escape from taxable regimes. Had the tax structure been modified in accordance to the way suggested by Arth Kranti Pratisthan with objective to let people feel comfortable in paying taxes, people in general would have preferred to earnestly pay taxes instead of paying bribes. Unless the Government adopts complete proposals of Arth Kranti about reforming Indian economy, black money may not be controlled.

Role of Tax and Financial Consultants in Black Money

While the tax consultants and agents guide their clients to get escape from paying taxes, duties, customs and excise etc., there are others to guide people deal with public institutions through means of hook or crook (dealing under the table). Some also guide their clients to avail cheap finances from banks with ideas to run away after depicting bankruptcy. They are responsible for increasing Non Performing Assets (NPAs) in Scheduled Commercial Banks (SCBs). With rise in consultancy companies in the financial sector, we can observe agents striving to settle cases of bankruptcy, one time settlements, debt restructuring and writing off bad loans from bank accounts. There is need that banks hire professional services from specified agencies to appraise loan applications. There is also need of specific regulation to set role and responsibilities of agencies involved in appraisal of loan applications. These agencies may be rewarded for smooth repayment of loans and penalised in case of wilful defaults by customers. There may be possibilities to amend the process of rating risk weighted assets so as to calculate proper risks associate with particular financial products under different circumstances.

RBI Report on alarming NPAs in Public Sector Banks

According to S. S. Mundra (Deputy Governor, RBI) by September 2015, percentage of actual default rate (including Gross NPAs, Structured Assets, and Write off Assets) was 14.1% of Gross Assets of all Banks. Considerably for Public Sector Banks this default rate was 17.0% compared to 6.7% for Private Banks and 5.8% for Foreign Banks. According to Mundra, the default ratio was 7.9% in Agriculture and 31.5% in Medium industries. Default ratio by Large industries was also high (23.7%) compared to micro industries (12.3%). After pointing out factors responsible for increasing defaults and NPAs he also suggested lessons from past mistakes. We hope now RBI would take lead to design and pilot innovative financial products (like micro equity, leasing of tangible assets and diminishing partnership etc.) to try suitably meeting the financial needs of agriculture and unorganized sectors enterprises along with holding NPAs under control.

NPA’s, Structured Assets and Write off in Gross Advances by Dec. 2015

Indian banks need Rs. 6 Lakh Crores to stand on BASEL III standard

After global financial crisis, the bankers needed to upgrade their CRAR (Capital to Risk-Weighted Assets Ratio) to stand comfortable under Basel III norms. To meet Basel III norms, Indian banks needed additional capital infusion worth Rs. 6,00,000 crores. The Government also needs to arrange minimum 50% capital support to public sector banks and thus earmarked suitable financial support for public sector banks. However besides public support, the banks also needed to raise capital from their own sources. Thus banks are allowed to sell Masala Bonds and equities. But due to higher NPAs, banks could not succeed to raise required capital.

Government hide the condition of banks before demonetization

There was pressing need for Indian banks to improvise their balance sheets by increasing quality assets to attract more capital. To do so they needed more liquidity to increase outstanding credits along with putting control over NPAs. They also needed fresh infusion of capital / equities from public and private sources. Since the banks were not finding easy to increase outstanding credits with normal liquidity, there was a need that Government of India should help them get extra support to mobilize deposits without high pressure to immediately pay back to depositors. If by any means the poor financial status of Indian banks would have been disclosed, people in large would have lost faith over Indian banks; and started withdrawing their deposits. This could have put Indian banks at risk of bankruptcy. Thus it was required that Government should hide the financial objective and pose political agenda behind demonetizing the higher denomination currency.

Three declared objectives behind demonetization

Thus the Gazette of India published on 8th November, 2016 reflected the following three basic reasons behind demonetization of Rs. 500 and Rs. 1,000 notes –

  1. Fake specified bank notes were largely in circulation and it was difficult to identify genuine bank notes from the fake ones and that the use of fake currency notes was causing adverse effect to the economy;
  2. High denomination bank notes were used for storage of unaccounted wealth as evident from the large cash recoveries made by law enforcement agencies;
  3. Fake currency were causing damage to the economy and security of the country by financing subversive activities such as drug trafficking and terrorism,

Have we failed to secure minting and circulation of our currency?

The notification did not cite any statistical data about quantum of fake currency notes in circulation and its impact on Indian economy. Unfortunately the reasons pointed in the notification suggest that we have somehow failed to maintain required secrecy of minting currency and allowed our enemies to mint fake currencies and circulate in our economy. We are humiliated to observe that corruption in our economy has increased to a level high where corrupt people are not only hoarding black money but also helping enemies to pump in and circulate fake currencies to enable financing of subversive activities in India.

People of India are forced to deposit their cash into banks

Government succeeded to hide the poor conditions of banks before demonetizing 86% Indian currencies (Rs. 500 and 1000 note) and forced the people of India to deposit their cash holdings into bank accounts if they want to legalize it. The way Government announced the demonetization, people could not get time to convert their cash holdings into bullions or real estate rather forced to deposit all cash holdings into banks to convert old currencies into new currencies.

Government may earn Rs. 3.54 crores after demonetization

During fiscal 2015-16, the combined fiscal deficit and revenue deficit of Central and State Governments was respectively Rs. 8,85,290 crores and Rs. 3,40,754 crores. The fiscal deficit of the Central Government alone was Rs. 5,35,090 crores. But the demonetization is expected to help Government minimize its fiscal deficit and enable to invest in public sector banks. By 31st March 2016 out of the total Rs 16.42 lakh crore of bank notes in circulation as much as Rs 14.18 lakh crore consisted of Rs 500 and Rs 1,000 notes. It is expected that banks would receive around 75% of debarred notes (approx. Rs. 10.63 lakhs crores) whereas 25% notes will not be surrendered by their holders for lack of evidence to prove it legally earned money. So, the Government is expected to earn Rs. 3.54 lakhs crores.  This will obviously help the Government of India improve its fiscal deficit and invest required capital into public sector banks.

What Indian banks expected to get through demonetization?

On the other side with increased inflow of Rs. 10.63 lakhs crores from public while depositing old currencies and withdrawing limited amount of new currencies, the Indian banks expect high increase in liquidity. Thus it is expected that banks would like to increase disbursement of credits (at least by Rs. 5.4 lakhs crores) at lower interest rate. This may enable banks improve their balance sheets if they put control over their NPAs against increased outstanding credits after demonetization. This may help banks get more capital investments from Non-Government sources. Thus with inflow of extra liquidity banks may be in a better position after demonetization.

Why Cooperatives and MFIs are not allowed to transact?

From 9th November till date the banks are not in a position to meet the money demanded by the public. In 15 days the Indian banks could not calibrate even half of ATMs operative in India. The supply of money through cooperative societies and Micro Finance Institutions (MFIs) has been chocked up. Debarring cooperatives and MFIs during demonetization has added monetary crisis in the rural sector.  The farmers are loosing value for their produces and opportunity to so Rabi crops.

Demonetization is promoting digital commerce companies  

Considerably demonetization has helped digital commerce companies like Paytm to register over 300% growth in offline store transactions in just one week. Whereas cooperatives and MFIs weer forced to shut their offices locked after demonetization; and god knows when they would be able to resume their businesses. There was news that lakhs of Mini ATMs would be operative in rural India, but so far no report is available about its progress.

Will Indian banks be stronger after demonetization?

If the economy with increased credit really help boosting economic transactions, and even if we see normalcy in economic activities in our economy; do our banks be in safer positions?  There is little doubt about it for following reasons-

  1. Before investing capital into Indian banks, the potential Non-Government investors would obviously like to check how banks perform after demonetization. Banks would have to prove their profitability comparable to profits if offered under investment in non banking companies. Digital commerce companies are likely to pose better prospects compared to banks.
  2. Investors would like to ensure that banks do not disburse credits in haste and are not being exploited by politically appointed directors and intermediaries.
  3. To get attractive returns, banks may need to successfully execute innovative financial products to reduce NPAs. This requires banks to be in a position to get back the financed tangible assets in case customers declare insolvency.
  4. The RBI may require to moderate the regulatory norms for banking companies so as to allow them earn sustainable profits and need not to look for the government packages for their bail-out.
  5. Focus need to be paid on promoting merchant banking products with more participation than just formal lending businesses.
  6. More importantly the RBI needs to set strict guidelines and regulations to ensure that intermediaries and agencies bridging the gap between banks and customers should not intend to favour customers by looting banks.
  7. There would be laws required to declare bank’s non interest income (rental income or profit) to be treated as par to interest income.
  8. Banks would need to shift their focus from large and medium industries to micro industries if wish to reduce NPAs.
  9. Since we are moving towards cashless economy, the future of banks may not be as brighter as of digital commerce companies.

India needed tax reforms before demonetization to control black money

The Government should realize that black money cannot be controlled unless we reform our regulatory frameworks, and tax structure in a manner that every Indian should feel it pleasant to register its enterprise and pay taxes instead of avoiding it by hook or crook. The Government is expected to pay regard to the common people for their cooperation over surgical strike on black money; and now need to introduce tax reforms. Hope this will be done before we feel the need for next demonetization.

Why Anil Bokil of ArthKranti is not convinced with demonetization?

According to Mr. Sailesh Menon of Economic Times, Mr. Anil Bokil of Arth Kranti also does not agree that this was demonetisation. Mr. Bokil was cited as saying that the government has only replaced large denomination currencies with even more larger notes. What Arthakranti Pratishthan proposed was to positively change India’s socio-economic scenario by restructuring tax policies, limiting the use of hard cash, making capital and credit cheaper and reducing the flow of black money in the system.

Conclusion:

Mr. Narendra Modi might be sincere to improvise the governance, but the way he took decision to demonetize Rs. 500 and 1,000 notes, it was surprising and left us with no option but to follow his decision. We have been admiring his several initiatives like Swach Bharat Abhiya, Digital India and Jan Dhan Yojna etc. and also admire the objective to create cashless economy, but this time we are forced to follow demonetization. It seems that demonetization has failed to stop funding of terrorism, rather adversely affecting 90% Indian workers associated with agriculture and unorganized sector where economic activities are mainly transacted through hard cash. The issuance of Rs. 2000 note in place of Rs. 1,000 may make easier to hoard black money in future. This demonetization has also adversely affected Cooperatives and MFIs to serve poor people managing there livelihoods. The economic growth rate is expected slow-down due to squeeze of liquidity from public. The consumption has drastically fallen to a level where it can pool the demand lower side; thus may imbalance the market forces. We expect that banks and digital commerce companies will get advantages of demonetization. Government of India may improve its fiscal deficit and find easy to extend capital support to public sector banks required to maintain higher CRAR for Basel III standard. However we fear that banks may not be in better position after demonetization because they actually need shift in banking mechanism from commercial to merchant banking to earn sought revenues to attract fresh investors. Banks need to invent new financial products and services to compete with growing digital commerce companies. Unless India reforms tax structure and commercial regulations, demonetization alone cannot help us slice our black economy. India needs a systematic long term plan and not one phase demonetization to reform the economy to check corruptions. If Mr. Narendra Modi was impressed with presentation made by Arth Kranti Pratisthan at all, he should have adopted their complete proposals instead of picking up single plan of removing larger currencies from system. We are afraid that India will be striving hard to find its target growth trajectory because we find it hard to counter the side effects of demonetization along with bias approach towards cooperatives and MFIs.

Author can be reached on economicinitiatives@gmail.com 

About Maeeshat. in

Leave a Reply

Your email address will not be published. Required fields are marked *

*

1 + sixteen =

Scroll To Top