Replace all the cash PDF Print E-mail
Thursday, 22 December 2016 04:41
AddThis Social Bookmark Button

Else, people will hoard it & economy will crash further


After finance minister Arun Jaitley said, last week, that all the Rs 15.5 lakh crore of demonetized currency would not be replaced, several economists have endorsed this, pointing to how India uses an excessive amount of cash, even in comparison to neighbours like Pakistan and Bangladesh. Keeping the currency levels low, the argument goes, will ensure more people switch to using digital payment methods and will keep a check on the amount of fresh black money generation as well. The argument makes a lot of incorrect assumptions and will perpetuate the economic crisis brought about by the demonetization – for one, how do you assume that restricting cash will choke off the flow to the black economy but not to the white one? Nomura's Composite Leading Index, it is important to keep in mind, is at the lowest level since the Index was started in Q2 1996 and is consistent with a GDP growth of less than 6%. There is no ‘right’ level of cash for any economy. Russia and Singapore have similar levels of cash – 8.8% of GDP for Russia and 9.3% for Singapore – and while one is considered to have large hordes of illicit wealth, the other is said to have very little. India’s cash-to-GDP ratio, interestingly, has increased from around 8% in the 1980s to around 11-12% today while everyone agrees the economy has a much smaller black component now.


The level of cash depends upon a lot of things, from the structure of the economy to its per capita income, the growth phase it is in, customs – Japan’s cash-to-GDP ratio is 20.8% – and even physical infrastructure. With just a fourth of Indians connected to the internet today – and we’re not even talking of its poor quality outside of a few big cities – forcing people to make digital payments by reducing cash availability will ensure India remains in the current cash-constrained poor-demand situation it is in right now. In the case of PoS devices required for debit-credit card payments, India has 15 lakh machines as compared to the 3 crore it needs using even Brazil’s norms – Brazil has 25,241 PoS per million population versus a mere 1,080 for India. A better idea is to provide incentives for going digital, but to leave the pace to the market and the growth of the relevant physical infrastructure.


If you assume India’s annual black money generation is Rs 5 lakh crore, just Rs 10.5 lakh crore of high-denomination notes need to be re-injected to serve legitimate needs while starving the black economy. Given the ease with which those with black money have laundered their funds, it is reasonable to assume they will not be starved of cash – leaving the legitimate economy with just Rs 5.5 lakh crore in place of the Rs 10.5 lakh crore it had earlier is asking for a big demand and supply compression. An equally serious issue is that of confidence. If the economy is starved of cash, those who are lucky enough to get their hands on it will hoard – in an economy that has ample cash, people deposit what cash they don’t need and withdraw it when they need. Cash-hoarding worsens the crisis since, apart from the lower levels of cash, the velocity of circulation also falls. While the debate on the pros and cons of demonetization will take a long time to get settled, perpetuating the crisis is a rank bad idea.



You are here  : Home Economy Replace all the cash