Wednesday, November 09, 2016

The Weak Suffer What They Must For the Greater Good?

By allowing people to declare their opinion on any event, Facebook has made it difficult to sway people's arguments using logic (or evidence), since we are less prone to change our mind if we have to redact our opinion or admit being wrong.  Which is why I try not to engage in debates on social media.  Nevertheless, perhaps this will take my mind off Trump.  This is by no means a research paper but all self selective citations are at the end of the post.

On a morning when Donald Trump is the new President-elect in America, I am hit with my friends and colleagues rejoicing in NaMo's demonetization plan to combat 'black' money, calling it "brave, bold, decisive, incisive" and other superlatives.  However, this issue is not, if you will pardon the pun, as black and white as one might initially think.

For the uninitiated, this is what happened.  On Nov 8, at 8 pm, Indian Prime Minister Narendra Modi announced that effective that moment, all 500 and 1000 denomination currency notes will no longer be legal tender.  He explained that this decision will help curb black money and counterfeiting.  You can read a detailed account of what happened in this Reserve Bank of India press release.

Who would not be excited at the prospect of a "bold and decisive" government policy to curb black money, eh?  Certainly the neoliberals sitting in their ivory towers on Facebook love this idea. While the perceived intention of the policy is along the right lines, there are some issues worth considering here.

Modi's sudden call to demonetize, seems much like his earlier schemes like Jan Dhan Yojana... a jumla.  However, while the opening of millions of ‘zero balance’ bank accounts under the Jan Dhan Yojana was a harmless gimmick, the ill-conceived monetary decision this time will inflict costs on the public.

First, nobody knows how much black money is actually in cash, and how much in other tangibles (Hindustan Times).  The 2012 report on the 1978 Janata Dal/Morarji Desai demonetization found that the majority of black money is in benami land, gold, and off-shore accounts.  It did little to combat black money in the "long run". I will admit that there are stronger tracking systems in place now, but there are also knew avenues of laundering (Indian Express).  The big fish have long devised much more sophisticated ways of stashing their money.  The current demonetization is unlikely to touch anything more than a fraction of the present stock of black money in India (HT).

This is what the policy has done so far: In Gujarat, sale of gold increased on 9 November with an increased 20 to 30% premium as people bought gold in exchange of their unaccounted cash.  The Hindu reported that such transactions have been made back dated.  The targets for this policy is already gaming the system, and the working class that barely have any money, let alone black money are the ones paying the toll  (The Hindu).  The liberal elite do not seem to understand this, calling it "a minor inconvenience that will be over in a week".  The worst statement I have read is a comment: "We have to take care of our domestic helps, that's our responsibility."

Having said that, there is definitely an argument to be made for this policy to lower corruption at the mid-level.  My friend Tanmay Shukla made an argument, which I am going to paraphrase:

When folks with black money buy a house in India, to avoid stamp duty people pay half in cash right?  Not jewelry or bullion or other properties.  When a bureaucrat pays another to get a promotion he has to use cash to avoid a second round of negotiations over the value of what he is offering as bribe.  Politicians, whose main reason for being corrupt is that they need a lot of funds, and need to make a lot of payments to stay in power.  So disrupting the currency supply should disrupt corruption.  We are not sure why it did not work in 1978 but casual observation goes against this idea that black money is not stored in cash.  However, one problem with this initiative is that it disrupts the flow and not stock of black money.  It can temporarily cripple people and make them fearful of being corrupt, but then Modi has to take advantage of their handicap to force a more permanent change.  We don't know what he is up to behind the scenes so it might be worthwhile to wait and watch.  Then again it might not.

Second, the demand for Aadhar and PAN cards while exchanging these notes at banks or the post office is an affront to the poor - most of whom are without these documents or the cultural capital to haggle with the institutions demanding them.  According to UDAI statistics, as on Nov 2016 about 80% of the total population have an AADHAR (1.07 billion issued) identification card.  Not including children, that leaves about 200 million people with no way to work around this policy. (UDAI stats shows more than 100% issuance rates for some states, so I would take their numbers with a grain of salt - this is not the first time the administration has inflated numbers, remember the new GDP estimators?)

Moreover, getting an AADHAR card doesn't happen overnight, particularly in remote places - what will they do in the meantime?  I think it is unfair to justify a "long term solution" with such a massive cost, which can have enormous long-term consequences.  Having an attitude that the poor can deal with this minor inconvenience for a couple of days, is naive and high-handed.  The government can do issue some studies of the expected cost to the economy and tax payer through demonetization and re-issuance, and some evidence to support that the black money recovered or destroyed will significantly trump that, otherwise it is simply not justified.  I want to see the mathematical logic of why and how this will work, especially since it did not in 1978.  I can't believe I am actually siding with Mamata Banerjee and Sitaram Yechury on this issue.

The government pushing for demonetization and asking the Reserve Bank to tag along also brings to question the separation of powers between the executive and the central bank.  If this excerpt from former RBI Chair Raghuram Rajan, is anything to go by, I do not think he would have supported it.
"There are alternatives to fighting..."
The decision has created chaos (Reuters), ordinary folks who work on daily wages are stuck with worthless cash and cannot buy basic supplies.  Certain shops are charging a 4:5 ratio to convert cash because banks and ATMs are shut - the BSE SENSEX tanked 6.3% and is forecast to lose more as the economy comes to a grinding halt over the next few days.  It is all good if you have a card and shop at Metro Mart, but it is a difficult disaster to survive for a substantial chunk of the country - the informal economy, which contributes about 20% to the GDP (Guardian).

Starting the 11th of November banks and post offices will allow people to convert their old bills for smaller denominations, but there is also a limit to cash conversion - Rs. 4000 per day.  The cost to banks and folks going to the bank to convert their money everyday will be stressful and hurt business.

Markets in Calcutta were closed today as the majority with purchasing power have very little low denomination cash on hand.  ATMs and banks are closed till the 11th - so what do we do in the meantime?  People are panicking because not everyone has plastic, in fact, the majority live on daily wages, so if you're sitting on Rs. 1,500 in 500 rupee notes and no one is accepting them and you have to change it in a bank and you don't have an ID - you do what anyone else would do - you panic.

Additionally let's not forget the Muslim population who do not use traditional banking systems - they are left out in the cold.

Finally, the skeptic methinks this is a ploy to reduce cash circulation as the UP elections are coming up to prevent ballot capturing.  The idea of issuing 2000 rupee notes will simply reset the system, so how is this a long term solution?  (Economic Times)

The arguments that this policy will do wonders for promoting e-commerce as well has the whole "India Shining" issue written all over it.  As for the contribution of this move in combating terrorism, it is a red herring.  The role of opaque instruments like Participatory Notes, used by FIIs operating in the Indian stock market, are more relevant for financing terrorism than Indian currency notes of high denomination (HT).  However, there is an argument to be made for the short-term increase in the value of the Rupee as there will be a heavy liability lift on RBI's books.

As Prosenjit Bose writes: 

"The real problems ailing the Indian economy lie elsewhere. The amount of stressed loans in the Indian banking system has crossed a whopping Rs. 9 lakh crore, a bulk of which is owed by domestic corporations to the public sector banks, causing a huge debt overhang.  Despite doubtful claims of fast economic growth, revenue mobilization has not shown any signs of improvement and consequently, re-distributive policies have been rolled back.

Under the Modi regime, substantive measures to promote investments, economic growth, revenues and welfare expenditure have been supplanted by gimmicks, PR spins and a brazen pursuit of select corporate interests. The latest instance of a conflict of interest lies in today’s full page newspaper advertisements by an online payment service provider congratulating the Prime Minister for the demonetization announcement."

It seems that the argument is that it is okay for a government to destroy the wealth of several hard working and honest citizens some of whom are in the poorest strata of society because they have no recourse (I include myself in this as I am sitting on cash here in the US and in my apartment in Calcutta that will essentially go to waste) @ 11,000 crore rupees cost to the tax payers to print new money (not including all the legitimate cash that will be destroyed and loss to business and waste of time and energy), create chaos and confusion, slow down the economy, disrupt regular business, not catch any of the really big fish because they have land, gold, and offshore accounts, make no arrests, and reset the black money counter in February after the elections?

Oh, and by the way, those Whatsapp messages your aunt sent you about nano GPS trackers in the new 2000 rupee notes is a hoax.

So what are the alternatives to this sensationalist stunt that hurts the working population instead of actually hitting the real criminals?  For starters, let us get a better understanding of why people engage in the black money economy.  Admittedly, the initiatives by the government to renegotiate the double taxation agreements with Cyprus and Switzerland - great idea.  Convictions based on Panama Papers - super.  Tougher auditing measures - great.  All of these target the top 1% who have about 74% of India's documented and undocumented wealth.  Can we give the poor some respite for a change and hit the ones who really need a punch in the bracket?

16 Nov 2016 Edit: The PM has asked for patience till Dec 30 - I will wait, I wonder if the poor can...

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