Social design of demonetisation

Dr L Krishnamangol Singh *

It is well known that demonetisation of high-value Indian currencies seeks among others, to reduce socio-economic inequality in the country. In fact, it is a monetarist approach, which is mainly based on Milton Friedman's model of monetary policy. Milton Friedman (Economics Nobel Prize winner of America for the year 1976) believed that monetary policy mainly plays an important role in grappling with/curing economic crisis like economic fluctuations and depression which is a situation in which there is lack of growth of the economy and also lack of purchasing power of the general mass of the people.

In fact, demonetisation of high-value Indian currencies takes place at a time or stage when the Indian economy exhibits a high concentration of income and wealth in the hands of the rich or richer section of the society and lack or shortage of purchasing power in the hands of general mass of the people in the country. Friedman placed exclusive reliance on monetary policy for controlling inflationary trends or general rise in prices and also for dealing with depression in the economy.

Thus, Friedman's contribution to monetary economics synonymous with "monetarism" in modern economics. According to Friedman, the general price level, the magnitude of the real income or the total output of the goods and services (ie the GDP in the national income accounting), the rate of interest, and the rate of increase in the general price level determines the demand for money.

Thus, according to Friedman, the demand for money varies directly with the changes in the general price level. For instance, 10 per cent increase in the price level will be accompanied, other things remaining the same, by an exact increase of 10 percent in the demand for money. And the smaller increase in the real income (or goods and services) may be followed by the larger increase in the demand for money. Again, a smaller decrease of real income (i.e. output of goods and services) will be followed by a larger decrease in the demand for money.

The theory developed by Friedman further suggests that at higher rate of interest, the cost of holding the money would be high. If the money is held in cash without lending, it would earn no income, and that it would be lay in barren form or in the form of unproductive money. And if it is lent out to some others, it would earn some interest income for the holder of the money. In fact, the demand for money will increase at lower rate of interest. Again, if the rate of interest is high, the people would like to hold less cash balances.

That is to say, the demand for money would decline if there is higher interest rate in the economy. In short, "there is an inverse relationship between the interest rate and the demand for money". Thus in the Indian context, the black money holders lent out their money at lower rate of interest due to the increase in the demand for money, leading to the various ill effects of money. This further leads to the generation of black money in the hands of the black money holders. Again, at high rate of interest, the demand for money declines. This further leads to the hoarding black money in the hands of black money holders.

Thus, Friedman's contributions to monetary economics explains the Centre's decision to demonetise the Indian currency notes of high value. In fact, the decision of the Centre to demonetise the high value currency notes corroborates the theory of money developed by Milton Friedman. It is also essential to note that there are different categories of persons who hoard large quantities of money cash balances in the form of black money for various illegal purposes.

And ultimately, they have become rent-seekers in the society through continuous accumulation of black money and black wealth. Thus, the centre's decision of the demonetisation of high currency notes explains the monetary measures intended to save the country from social and economic inequalities that exists in the Indian society or in different states of the country for a long time.

It is also intended to augment the financial position of the Centre (i.e. the Government of India) and also the cash position of the banks in order to save the country from the global financial crisis that is likely to affect the Indian economy. Thus, demonetisation of high value currency notes seeks to remove disturbances in the monetary sector in order to achieve proper growth of money supply, which is essential for promoting economic development and controlling excessive rise in the prices in the country.

It is also interesting to note that, prior to Friedman's model of monetary policy or contribution to monetary economics, Keynes, in his General Theory of Employment, Interest and Money (1936) emphasized on the importance of fiscal policy as a policy measure to fight economic depression or the "Great Depression" that existed in the form of deflation (business contraction and mass unemployment) in England and other advanced/developed countries in the early 1930s. As a part of fiscal policy, Keynes believed in reducing the general burden of taxation on the community or the general mass of the population. He also suggested for cutting down business and corporation taxes in order to increase both consumption and investment expenditure.

In fact, according to Keynes a reduction in commodity taxes will lead to increase in private investment. And, he further suggested that the richer or upper section of the society should be subjected to progressive income taxes, and the revenue thus obtained should be spent by the government in subsidising the welfare programmes or the schemes for the poor. Keynes further believed that during the long period of depression, monetary policy alone failed to cure the economic depression. He, therefore, placed on fiscal policy as an important policy instrument for redistribution of taxes along with monetary policy for curing the economic depression or business depression.

In the Indian context, over the last few years, there has been a relatively low rate/level of economic growth, high rate of inflation or the general rise in prices, the existence of chronic or mass unemployment, heavy concentration of income and wealth in the hands of a few classes, resulting in high level or rate of socio-economic inequality, low level of saving and lack of purchasing power of the general mass of population or the people chronic poverty in many pockets etc. Thus, along with the fiscal reforms or taxation reforms adopted by the Government of India along the line of policies suggested by Keynes in his great work on the General Theory (in brief), the present demonetisation policy announced by the Prime Minister of India concentrates on Friedman's monetary theory and policy, which explains that the economic crisis in any country can be controlled or cured through monetary reforms or reforms in the monetary sector in various forms.

In the Indian context, it can be pointed out that unregulated credit markets, particularly in the private sector have greatly affected the Indian money market. Although the credit market operate in both "white money" and "black money", the latter flows freely without any regularisation and control in the black money or the black money market. And, the unregulated or the uncontrolled expansion of the black money seriously affects the functioning or working of the entire economy. And the monetary economics also explains that the source of "black money" is "black income". Now the question is : Why is black money generated ? In fact, it is well known that they are not declared to income tax authorities. Thus, the Indian tax laws should be liberal and flexible in order to avoid undisclosed incomes of the people.

In the past, high rate of taxes/taxation and conservation or orthodox tax system killed the initiatives of the individuals and private enterprises. This ultimately leads to the accumulation of black money and further generation of black income, which is beyond the control of the Government or the monetary authority. Thus the present chaotic condition is due to the defects in the fiscal policy or tax policy of the Central Government of the country. In fact, the Income Tax Department should not be used as an instrument or institution for checking the generation of black income in the hands of citizens or private individuals or and private enterprises in the context of the present policy of the expansion of new political economy of development or the expansion of new economic development reforms in the country.

In fact, the liberal policy of tax-cut, tax-rebate, tax-holiday, tax-incentives, tax-awards, tax-exemption, no-tax for certain categories of citizens, who are rich but (who are) out of the service of the Governments, complete redemption of taxes etc. will lead to the emergence of a good monetary standard in the country. In fact, the golden tax rules should simplify and liberalise the Indian tax system in order to provide incentives to all citizens.

The tendency to look at the richer section of the society through the rose glass needs to be carefully considered as Simon Kuznets has also suggested the existence of the inequality of income in the process of economic growth and development at least in the initial stage of industrialisation of a country where there is low level of savings and investment. Thus, Kuznets revealed that economic growth and development exacerbate the inequality of income which formed an inverted U-shaped curve or inverted U-curve (ie). And, this is also known as inverted U-Kuznets's curve. In fact, in the inverted U-shaped curve (e.g. ), income inequality widens in the initial stage of development. And with the progress of economic growth, the equality reduces and, ultimately vanishes at the advanced stage of development.

In short, Nobel Laureate Simon Kuznets explains the relationship between a country's income per capita (or generally used as per capita income) and its equality of income distribution, in which, with the growth of per capita income, there is worsening of the distribution of income or national income, and it ultimately improves from the income inequality that exists in the initial or low levels of development. He identified the relationship in the context of developed countries. In fact, as Mitchell A (et al) have pointed out, most debate on the internal gap between rich and poor people in developing nations begins with the seminal presidential address on Economic Growth and Income Inequality delivered by Simon Kuznets to the American Economic Association in 1954 (Cf. Mitchell A., Development and Underdevelopment, 2010:135).

Using data from some advanced countries, Kuznets concluded that since the 1920s, and perhaps, even earlier, there has been a trend toward equalisation in the distribution of income (Ibid., p. 135). He further emphasised the various factors in the process of industrialisation that tend to concentrate the savings in the hands of the wealthy. In fact, Kuznets's conclusion is that, "the central factor in equalising income must have been the rising incomes of the poorer sectors outside of the traditional agricultural economy". (Ibid., 135). In this context, it can be pointed out that the traditional agricultural economy comprises many landlords and the rich farmers.

And he further emphasised that industrialization leads to the rising incomes of the poor both in developed and developing countries including the experience of India. His findings further revealed that income inequality in the developing countries is greater than that in advanced countries (Ibid., 135). Thus, a brief examination of Simon Kuznets's "Inverted U-curve" hypothesis or model emphasised the need for reduction in income inequality that exists in developing countries including India. This explains the drastic action for demonetisation of high-value currency notes of India with a view to checking the concentration of incomes in the hands of the richer sections of the society.

In fact, the decision on demonetisation, announced by Prime Minister of the country contracts the concentration of savings, incomes and other assets of the people in the country. It also kills the initiatives of rent seeking behaviour of those people, who indulge in various illegal practices. Along with the steps taken by the Prime Minister of India, there has also been wide/prior information for addressing the issues of illegal assets or black wealth, earned by the black money holders.

To conclude demonetisation announced by the Prime Minister, Narendra Modi, is a new policy shift to provide economic and political freedom to all the citizens in the country. In fact, the economic and political life of the citizens of India need not be controlled by black money holders. There will also be good monetary standard or system as bad money cannot drive out good money out of circulation in the aftermath of demonetisation in the country. In fact, according to Gresham's law "bad money drives out good money".

Now the debased or worn out legal tender money or notes, the fake notes of high value are being replaced by fresh paper notes. Thus, the black money cannot take various evil roles of money in India's political economy of development. Again, it is necessary to build up the qualities of good monetary standard. And the bad money in the form of debased or worn out high value currency notes should be completely wiped out.

In fact demonetisation will have beneficial effects in the country and bring out reforms in the India's currency system. It will also save the country from financial crisis in the country. However, there should be immediate measures for addressing the process of transformation in both the monetary and real sector. As Keynes stated, "In the long run, we are all dead".