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Why Demonetise Without Any Estimate of Black Money?

Dec 19, 2016

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The prime minister Narendra Modi communicated the decision to demonetise Rs 500 and Rs 1,000 notes to the nation, on the evening of November 8, 2016. The idea was to tackle black money as well as fake notes.

As the government press release accompanying the decision said: " Use of high denomination notes for storage of unaccounted wealth[black money] has been evident from cash recoveries made by law enforcement agencies from time to time. High denomination notes are known to facilitate generation of black money."

Between then and now, a lot of analysis has happened on how much black money the government will be able to bring back in the public domain. And once the money is back in the public domain, how much money the government will be able to earn by taxing it.

Many economists and analysts have written research reports on this. These research reports have been turned into WhatsApp forwards which have been widely shared. People have passionately argued on WhatsApp groups, Facebook, Twitter and even in personal communications, as to how successful the demonetisation decision will eventually turn out for the government and in turn, for the nation.

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Often big diagrams and flow-charts have been made as to show the thousands of crore that will come into the government kitty, at the end of the day. Any analysis along these lines starts with a basic assumption around the total amount of black money that the Indian financial system has. Black money is the money which has been earned through legal as well as illegal means but on which taxes have not been paid.

As it turns out that the government has no estimation of the total amount of black money in the financial system. This is something that the finance minister Arun Jaitley told the Lok Sabha in a written reply to a question that had been asked by Anant Kumar Hegde, a BJP Lok Sabha MP from Karnataka.

As Jaitley said: "There is no official estimation of the amount of black money either before or after the Government's decision of 8th November 2016 declaring that bank notes of denominations of the existing series of the value of five hundred rupees and one thousand rupees shall cease to be legal tender with effect from 9th November 2016."

What does this mean? It basically means that while taking the decision to demonetise Rs 500 and Rs 1,000 notes, the Modi government did not take into account any estimate of the total amount of black money in the Indian financial system. It further means that the government has no idea of how much money it expects to gain through this entire manoeuvre.

It is amazing that such a huge decision that impacts every citizen of this country was made, even without taking a basic estimate of black money into account. Of course, all big decisions in life, require some leap of faith. The perfect data and the perfect conditions are never there. But at the same time there should be some analytical basis to them as well. There must be some expectations of a payoff for the government that will make it worth all the trouble that the people of India have been be put through.

The surprising thing is that in 2011, the Congress-led UPA government had asked three institutes, the National Institute of Public Finance and Policy (NIPFP), the National Institute of Financial Management (NIFM) and the National Council of Applied Economic Research (NCAER), to estimate the total amount of black money in India.

An October 2016 PTI newsreport points out that: "Replying to an RTI query, the Ministry said study reports of NIPFP, NCAER and NIFM were received by the government on December 30, 2013, July 18, 2014 and August 21, 2014 respectively." The reports from these institutes have still not been put up in the public domain. "Reports received from these institutes are under examination of the government," Finance Minister Jaitley had told the Rajya Sabha in May 2015.

Hence, the government has access to three estimates of black money. There must be some explanation behind why it chose not to take any of these reports into account while deciding to demonetise high denomination notes.

In fact, in May 2015, Jaitley had also told the Rajya Sabha: "There is no official estimation regarding the amount of black money generated in the country. Varying estimations of the amount of black money have been reported by different persons/institutions. Such estimations are based upon different sets of facts, data, methods, assumptions, etc. leading to varying inferences. However, sectoral analysis of seizure of valuables and admission of undisclosed income in the searches conducted by the Income Tax Department in the last three financial years indicates that the main sectors in this regard are real estate, trading & manufacturing, contractors, gems & jewellery, services [emphasis added], etc."

To conclude, the question is how did the government decide to go about to demonetise Rs 500 and Rs 1,000 notes, and put the citizens of this country through great trouble, without even having a basic estimate of black money in place. On what pretext was such a disruptive decision made? This is a question that Modi and Jaitley need to answer to this nation.

Vivek Kaul is the Editor of the Diary and The Vivek Kaul Letter. Vivek is a writer who has worked at senior positions with the Daily News and Analysis (DNA) and The Economic Times, in the past. He is the author of the Easy Money trilogy. The latest book in the trilogy Easy Money: The Greatest Ponzi Scheme Ever and How It Is Set to Destroy the Global Financial System was published in March 2015. The books were bestsellers on Amazon. His writing has also appeared in The Times of India, The Hindu, The Hindu Business Line, Business World, Business Today, India Today, Business Standard, Forbes India, Deccan Chronicle, The Asian Age, Mutual Fund Insight, Wealth Insight, Swarajya, Bangalore Mirror among others.

Disclaimer: The views mentioned above are of the author only. Data and charts, if used, in the article have been sourced from available information and have not been authenticated by any statutory authority. The author and Equitymaster do not claim it to be accurate nor accept any responsibility for the same. The views constitute only the opinions and do not constitute any guidelines or recommendation on any course of action to be followed by the reader. Please read the detailed Terms of Use of the web site.

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14 Responses to "Why Demonetise Without Any Estimate of Black Money?"

Sultan Fazelbhoy

Dec 21, 2016

Dear interesting writer VIVEK KAUL :: in answer to your query I am reminded of a personal comment by a member of the World Bank delegation over 30 years ago. When asked how the WB continued to sanction big loans to India in spite of slow growth and weak balance sheet, the answer was "We take into account the strong parallel economy which contributes to employment and wealth generation in a big way ! ! ! "
There is no real need for more research and data -- the figure is massive, and the need has been "ACTION without further delay" I fully endorse the PM's views but am cautious about his results forecast, as we Indians are highly expert in avoiding taxes and one-up-man ship over Govt policies ... Sultan at 89.

Like (1)

Thiruvalluvan

Dec 20, 2016

I want one more aspect to be taken into account. My brothers live in foreign countries. They have each approximately Rs 10,000 ( As 1000 or 500 denomination) in Indian rupees. This amount is the remainder with them in their previous visit. They have that and use it when they land in India next time from Airport to reach their home in India. Now they are not having option to change / deposit the notes, they have. The SBI branch in their country has told that they are not dealing with Indian rupee. Suppose 1 crore Indians are having this type of issue (WORLD WIDE) and even if each is having Rs 5000 with them which cannot be deposited, around Rs 5000 crore will be in unaccounted form. But this is not black money. Hard earned , tax paid legitimate money. Government should take this also into account.

Like (1)

ASHWIN SHAH

Dec 19, 2016

Let the time frame asked by Mr.Mody of 50 days complete.Let the amount of currency printed in denomination of Rs.500 and Rs.1000 and in circulations to come to Banks by way of deposits.It may be possible that black money holders also have deposited indirectly in to banks.Prevention of Money laundring Act and Bnami act are enough to punish all such culprits. Don't think that we can not live without black money.It was the systems since last 60 years and we are hasistating to change that wrong systems and that's why negative questions comes to our mind. We have experienced non acting government for 10 years. Now all of sudden we find government acting on various issues and we feel uncomfortable. Again let us wait till 30th December,2016 and avoid negative comments or questions till then.

Like (1)

TP SAMPATH

Dec 19, 2016

sAD despite being an expert on money currency and author of books on that subject (which I like) you have taken such an pro black money stance. Sadder my favourite investment website equitymaster has been brought down. I am 70 and keen investor in my long career in Chennai Bombay Kolkata and Delhi have seen devastating effect black cash has made in our lives. That less less than 2% of indian are under IT net and we import largest gold are no difficult things to ignore when you ask government to have an estimate of black money! as if the crooks in our economic system will provide data about the black money. What has happened is the best that one can do under the circumstances, quick un-premeditated and slow replacement of currency all added to woes of black money economy . Yes ordinary people faced much too but few took to streets. Completely disagree with your approach and disappointed that you did not provide some of your own estimate of black money in our system. Just go to south Mumbai and buy an apartment and check how much you need cash. Same story in Delhi NCR. My neighbors could not sell for two years because they wanted all cheque transaction. Will economists who are politically biased will present a compact case how beneficial black money is for Indian economy and also make how to demonetise manual and put it for the benefit of public (black ).

Like (1)

nish_equity

Dec 19, 2016

This is more of a political article rather than an economic article. A very disappointing article considering coming from Vivek Kaul and hosted on equitymaster website.

If we understand the nature of money transactions it is very clear that is very difficult to estimate the amount of black money by any authority in the world. For eg. if I make any payment in cash from my white money on which income tax has been paid for any goods or services on which no tax is being paid, then it becomes black money.

However we know clearly that significant black money is being generated in this country if we compare empirically the jewellery sales or car sales or real estate deals compared to the number of tax payers.

Since 2014, this government has been taking a series of steps in its attack on black money. Demonitization is continuation of this series of action and is expected to be followed up with more actions. Demonitization is a significant & an landmark attempt, not a start & not the end of process, that will ensure that transactions like the one I mentioned as an example above are reduced to the minimum thereby reducing quantum of future black money in the Indian economy.

Like (1)

Dave Nitin H

Dec 19, 2016

We all know that Black Money generated in India is in the market since decades. The exact % and its forms even though a mystery, by & large it may prevail as Cash- INR, Cash - Foreign Currency, Land, Property in India & Abroad, Precious Metal, Stock Market, stake in Industries or Business in several names - real or fictitious.

Due to these unknown factors, several steps may be needed to push most of the black money and associated assets to the wall where the ultimate owner has no other option but to disclose their black money related assets or loose it.

I guess the next step to tighten the Property Ownership records, Stock Market Investments, getting countries like Switzerland to disclose all Swiss a/c holders names etc is crucial.

The over-all concept and its long term benefits for a country is truly Good. While there may be issues about execution and inconvenience, may people still appreciate the bold moves initiated by the Government.

People and agencies outside India appreciates this. Even countries like Singapore which leads in terms of its e-Transactions or cash-less transactions have gone through several years of challenges. We however in India expect magic to happen overnight.

We all, including Equitymaster should look at both the Pros as well as Cons rather than projecting only a one sided view.

Like (4)

A.C.K

Dec 19, 2016

With most/all of the money being deposited back in bank accounts, will it help get a trail for taxation in future using data analytics tools (was there not a project launched for just such a thing by UPA in fact in the past) ?

Like (4)

Anonymous

Dec 19, 2016

To put in simple words..all bank currency notes issued are promissory notes & by resorting to demonetisation it implies default by the government to pay the bearer of promissory notes. This may be due to stress in banking system due to increased NPA levels & loans not being recovered. Hence, systemic risk for the banking system as a whole has been mitigated by demonetisation.

Like (1)

Arvind

Dec 19, 2016

I don't share your enthusiasm in being Negative, every single day.
U may keep cribbing or u may get together your act,now that we r confronted.
I don't seem to understand your company's logic in "Teaching" money or life ideas&on the other hand, crying hoarse Everyday.
These r not investment lessons u r giving, these r Political!

Like (4)

Lakshminarayanan

Dec 19, 2016

"This is a question that Modi and Jaitley need to answer to this nation."

They will not. Right now they are on a high having pulled wool over the poor and middle-class people's eyes by cleverly positioning demonetization as a way of socking the rich, while the fact appears to be that the rich have devised ingenious ways to convert black to white including conniving with the very guys who are supposed to implement it. The Opposition was caught on the wrong foot and could not counter it effectively. Now the government has provided a email id for black money whistle-blowers. Asking people to rat on each other can have the disastrous consequence of someone blowing the whistle just out of spite or vengeance. This seems to have escaped the government's mind or else they do not care. It immediately brought to my mind the happenings during Hitler's times. During Hitler's times, a maid can report to the Nazis that she had not seen Mein Kampf in the house she was working in for the family to be treated as anti-Hitler and taken away by the Nazis. The parallels, at least to my mind, is clear as daylight. In this case, if you are against the action of the government you are corrupt, just like not having Mein Kampf meant you are anti-Hitler.

Like (3)
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