Demonetization and digitalization: The Indian government's hidden agenda
Introduction
On 8 November 2016, Indian Prime Minister Narendra Modi announced the impending, almost immediate demonetization of all 500- and 1,000-rupee banknotes (equivalent to 6.85 and 13.7 euros)1 and the introduction of a new series of 500 and 2,000-rupee banknotes. The country's 1.3 billion population, a quarter of which is illiterate, would have until December 30 (less than two months) to exchange those notes at a bank or post office branch. India had already experienced the demonetization of some of its outstanding banknotes, but never on this scale. The demonetization of 2016 applied to more than 80% of the banknotes in circulation.
In January 1946, the British Raj (the British colonial regime) instructed the Indian Central Bank (RBI) to withdraw the 1,000, 5,000 and 10,000 rupee-banknotes in circulation at the time. The objective was to fight counterfeiters. Notwithstanding false rumors as to the withdrawal of the far more widely used 100-rupee banknotes, this demonetization had little impact on the general population because it rarely used such high denominations. A few years later, Chintaman Dwarkanath Deshmukh, Governor of the RBI from 1943 to 1949, argued that it was more a matter of a conversion than a demonetization (RBI, 1970, p. 709).
The 1,000, 5,000 and 10,000-rupee denominations were reintroduced in 1954 and caused regular controversy in the fight against counterfeit money. The Wanchoo Committee, a working group on direct taxes, regularly called for the demonetization of large, easily falsifiable denominations. This committee would only make itself heard with the rise to power of Moraji Desai in 1977 who, with the Janata Party,2 ousted the Indian Union Congress for the first time in its history. On 16 January 1978, going against the advice of the Governor of the RBI, the Prime Minister I.G. Patel announced the demonetization of the 1,000, 5,000- and 10,000-rupee notes. The population then only had three days to exchange these denominations. Although there were queues outside the RBI offices, the January 1978 demonetization had no lasting effect on the money supply, price developments or personal savings (RBI, 2005, p. 450). The demonetization only affected a small proportion of the money supply: only 1.7% of all banknotes in circulation, an estimated equivalent to 0.1% of the country's GDP.
In November 2016, the Narendra Modi government's measures applied to 86.4% of banknotes and coins in circulation, the equivalent to 11% of GDP. India is one of the most cash-dependent countries in the world. 98% of consumers' payment (68% in value) are made in cash (PricewaterhouseCoopers, 2015). By way of comparison, cash accounts for only 55% of total consumers' payment (14% in value) in the United States and 78% in Europe (54% in value) (Henk & Hernandez, 2017).
Demonetization has given rise to much analysis, which has largely been critical because of its disastrous consequences on local populations, and especially the most deprived among them. Our paper adopts a different angle: it argues that demonetization had a central impact on the digitalization of payments. We will first discuss the origins of the events and the government's grounds for action. Secondly, drawing on RBI data, we will analyze the nationwide evolution of monetary and financial practices, with a particular focus on electronic payments via Automatic Teller Machines (ATM), digital payments via Point of Sale Terminals (POS), and mobile banking. Electronic transactions, which are only an intermediary step towards dematerialization, are stagnating or even regressing. But for digital transactions, November 2016 was a turning point for their widespread adoption. As is well-known, economic policies sometimes conceal political agendas. They are also liable to have various unexpected and unpredictable effects, whether positive or negative. For our purposes, while demonetization was initially presented as a measure to eradicate the illegal economy, it has above all contributed to accelerate digital finance. In concluding, we will question the meaning and consequences of this digitalization.
Section snippets
Tackling the illegal and informal economy, or promoting digital payments?
When the Indian Prime Minister unexpectedly announced the demonetization of the two denominations, the country's political authorities claimed that the instant invalidation of the two largest banknotes in circulation in the country should help tackle counterfeit banknotes, terrorism financing, corruption, and the illegal economy. By curtailing black money, expanding the fiscal space and promoting a cashless economy, this policy was intended to help promote the formalization of the economy,
What do we know?
We are not the first to have studied the effects of demonetization. The table below offers an exhaustive list of the studies carried out to date, specifying the methodology, the period, the type of data, the location, and the main results (Table 1). Most of these studies draw on secondary data such as RBI data, consumer data, agricultural markets data, and so on. Some papers use quantitative and/or qualitative primary data, and others offer theoretical reflections. Our corpus mostly consists of
Discussion
Using RBI data, we have shown that the demonetization period brought about a decline in ATM withdrawals and fueled uptake of digital means of payment. Of course, we cannot know what would have happened to those digital payments in the absence of demonetization. They too may have ended up increasing. But our data does reveal a significant spike: a continuous rise in digital payments, especially for POS transactions, dating back to demonetization. ATM numbers and usage show a much more mixed
Concluding remarks
The violence of Indian demonetization and its dramatic consequences on the Indian population have been widely documented. The digitalization of payments is a further effect of demonetization, and it has probably not received enough attention. With data gathered from the Reserve Bank of India from 2014 to 2020, we have shown here that the demonetization period brought about declines in Automatic Teller Machines (ATM) withdrawals, and the faster adoption of digital means of payments via Point of
Funding
This research did not receive any specific grant from funding agencies in the public, commercial, or not-for-profit sectors.
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