Modi's demonetisation plan has brought massive amounts of pain – will it be worth it?

This much is clear: Narendra Modi’s bold, sudden demonetisation scheme is working.

There is no doubt that the move to withdraw all older Rs 500 and Rs 1,000 notes and replace them with new currency has shaken black-money holders across the country. There’s enough anecdotal evidence of deposits surging and empty accounts suddenly being filled to suggest that some additional money will come into the tax net. The exact magnitude will not be evident until later, when the government starts levying penalties on those who have surrendered large amounts of cash or even further down the road when money that has now been turned into the financial system has to be accounted for.

There is also the additional benefit of cracking down on fake currency, which the Finance Ministry pointed to as one of the key aims of the scheme. Even if the government did not have the time to add security features to the new notes, it has still made life much harder for those who traffic in counterfeit notes.

We don’t know how well this scheme has worked yet. But many people, even those who have had to stand in lines for hours or endure tremendous difficulty without liquid currency seem to agree that it will be effective.

Lined up

But it’s made life hard. The most visible part of this is having to wait in line to receive new currency – which for now is being handed out mostly as Rs 2,000 notes. The lines are everywhere. They’re so ubiquitous that videos of them have become a mini-genre on YouTube. With the finance minister telling us that ATMs will not be fully operation for two or three weeks, with banks unlikely to keep up either, they’re not going anywhere soon. Lines have always been part of the experience of being less-privileged in India, but digital schemes and direct benefit transfers were supposed to do away with them.

While most of these lines are orderly, not all of them are. On Saturday, the Delhi Police reported nearly 4,500 complaints of violence at bank branches and ATMs. Mostly orderly doesn’t mean convenient though: People have been literally dying from waiting in line, and this system makes it hard for those affected the most: the elderly, the daily wager, the differently abled. Being told by bank officials that you sound “Pakistani” for asking questions doesn’t help either.

Lines are the part that’s easiest to see and report on. Less apparent are the ripple of effects of declaring illegal, in one fell swoop, more than 85% of all currency in the country. The move has sucked liquidity out of the system on a scale that is unprecedented.

Pain everywhere

Money simply isn’t moving. Even those who have stood in line are holding on to their cash, often because they are unable to use their Rs 2,000 notes anywhere, since no one can offer change. Non-essential goods are not being bought. Traders who don’t offer internet-based payment services – the vast majority of them, especially outside the big cities – are either going without business or having to open risky credit lines. Some firms are temporarily shutting down. Farmers are concerned about finding the money to pay for tractors or labour to plough their fields. Vegetable trading markets are under severe stress. People are being forced to sell their old Rs 500 notes at a loss.

Even those who can survive without liquid currency are facing the effects of the move. On Saturday, reports from across the country suggested credit and debit cards were under such severe stress that they were sometimes not responding. Banks being asked to give out Rs 4,000 in cash per person were only doling out Rs 2,000 so that they wouldn’t run out of the few new notes they had been given. The Reserve Bank of India has had to send soiled notes back to banks just to ensure liquidity. And despite making soothing noises, Finance Minister Arun Jaitley has made it clear: things aren’t going back to normal for a couple of weeks at least. On Sunday, Prime Minister Narendra Modi asked the people of India to bear with the pain for the next 50 days.

Fifty days is several lifetimes when the vast bulk of the economy has been disrupted. Even if ATMs return to normal within the next few days in the cities – which seems unlikely – the plight of those who live further away, in the towns and villages, will continue to be bad. Don’t expect normal levels of liquidity anytime soon.

Sucking liquidity out of the system also means potentially derailing the economy for some time. GDP numbers are probably going to be tight for the next two quarters. In real terms, that means people’s businesses and livelihoods will be affected. That also means indirect tax collections will be dampened, and don’t ask about job growth.

On top of all this, people’s faith in the system might have been weakened. Years spent trying to wean people off gold might be laid waste as people turn back to a safe savings choice that they believe will not again be demonetised.

How much gain?

All of this is bad. Some of it, when people die or can’t pay for treatment or are left penniless, is downright awful. But, as has been noted, Modi’s scheme is also working. It has actually shaken those who held black money in cash. It has made their lives harder.

Which leaves one question: Was this worth it? Parliament begins next week, and politicians of all stripes will get chances to put questions to the government that undoubtedly made a gutsy decision here. The thing they need to be bringing up again and again until they get an answer is, what was the calculation here?

How much did the government expect to make, through penalties or taxes? How much did they expect this move to deter corrupt people with illegal assets, who might just as easily be holding real estate or gold? How much black money did they think this would net?

Crucially, will that quantum be enough to offset the massive amounts of pain the system is dealing with? Will the expected tax and penalty revenue be that much larger than the productivity that is lost? Will the lower real-estate prices be enough to nullify the danger of an agricultural industry that has messed up one season? Will India’s banks be so invigorated by this executive move that their general non-performing asset malaise be lifted? Will the financial and environmental cost of replacing a massive amount of currency notes be made up by subsequent economic activity? Will those who traffic in illicit currency be so deterred that they won’t move to other illegal instruments?

Worth it?

This is a massive operation, that involves reconfiguring a huge amount of the economy around new currency and an effort that will just about affect every single Indian. Presumably, this was taken with due consideration and after much calculation. Now that the scheme itself no longer needs to be a secret, neither do the calculations on which it was made.

This isn’t a zero-sum game and politicians who seek to insist that there has been no upside to Modi’s move are being wilfully obtuse. But if there’s one thing our political representatives can do to ensure accountability in decision-making, it is to ask the government and Modi how he settled on this approach.

Only if the government tells us what it expected to get out of this – besides political victories and burnishing the image of the decisive prime minister – will we know if this massive amount of pain has been worth it.