Demonetization, India,Political Economy

In November 2016, Prime Minister Narendra Modi announced the cessation of Rupees 500 and Rupees 1000 notes, the two largest denomination notes which accounted in total for 86 per cent of the cash. The demonetized notes were to be replaced with new Rupees 500 and Rupees 2000 notes. Since the partition of the Indian subcontinent in 1947, it was the second time that any Indian government took the decision of demonetizing bank notes. The first such decision was taken in 1978 when Janata Party coalition government demonetized banknotes of Rupees 1000, Rupees 5000 and Rupees 10,000 with the aim of curbing counterfeit money and black money. In past, Bharatiya Janata Party (BJP) itself opposed demonization by terming it as ‘anti-poor’. The demonetization policy crippled the Indian economy, especially the informal economy, and its economic impacts continue to be under study among academicians. Projecting the narrative of fight against the corrupt elite helped Modi and his party secure victories in six out of seven state elections which were held in 2017.


Modi government presented the following objectives which need to be achieved through the demonetization policy:

  1. Curbing black money
  2. Curbing money gained through illegal sources
  3. Curbing counterfeit currency
  4. Expansion of tax base
  5. Reducing cash-based transactions
  6. Curbing finances available to terror and insurgent groups
  7. Integrating the formal and informal economies.

Determining the Success of Objectives

In terms of curbing black money, the Modi administration estimated that Rupees three trillion or approximately 20 per cent of the demonetized banknotes would be permanently removed from circulation. However, the 2018 report from the Reserve Bank of India (RBI) stated that Rupees 15.30 trillion out of  Rupees 15.41 trillion or approximately 99.3 per cent of the demonetized banknotes were deposited with the banking system. With such an overwhelming deposition of demonetized bank notes in the banking system, the experts concluded that the government failed in curbing the black money.

To avoid tax evasion, a number of people were circumventing the Rupees 4000/day restriction of money exchange by conducting multiple transactions. No monitoring of how much money was exchanged by an individual on daily basis helped such individuals to circumvent the government imposed restrictions. Several businesses like co-operative banks, jewelers and mobile phones sellers used backdated accounting for money laundering. Similarly, spike in donations in the form of the demonetized banknotes was witnessed in temples and gurudwaras because such sites are exempted from inquiry by the tax department.

Curbing counterfeit banknotes was an important objective of the demonetization policy. However, no significant change has been witnessed regarding detection of counterfeit banknotes. In 2017- 2018, detection of such notes was close to the level before demonetization. Moreover, there has been no substantial increase in tax base or direct tax collection due to demonetization. Increase in digital payments was one of the main objectives behind the demonetization policy. However, the growth in digital payments had been modest after return of the cash. The currency to GDP ratio was only marginally lower compared to level before demonetization.

In terms of reducing funds available to insurgent groups, a significant decrease was witnessed in the activities and attacks conducted by Maoist and Naxalite groups. Consequently, the surrender rate from these groups reached the highest ever. Insurgent groups in Indian-held Kashmir also decreased their activities. With the improving cash shortage situation, the outfits renewed the activities with full force.

Economic Impacts

Due to demonetization, cash was scarcely available which led to chaos. Long queues outside banks and ATMs resulted in creating difficulties for people in depositing or exchanging the demonetized banknotes. For months, the ATMs were short of cash. The cash shortage affected about 800,000 truck drivers and conductors. Similarly, 400,000 trucks were stranded at major highways. Following the announcement of the demonetization policy by Modi, the BSE SENSEX fell over six per cent on the day after the announcement of demonetization.

Due to demonetization, industrial output witnessed reduction as industries suffered from cash shortage. An estimated 0.25 per cent to one per cent reduction was witnessed in economic output. The time around which demonetization policy was announced is the time when rabi crops are planted. The announcement of demonetization policy resulted in the unavailability of cash for purchasing of fertilizers, seeds and pesticides. Consequently, there was relative erosion of agricultural wages and farmers were left with a weak bargaining power. The extent of problems faced by farmers can be understood by the fact that they were not able to recover even the transportation costs.

Due to demonetization, industrial output witnessed reduction as industries suffered from cash shortage. An estimated 0.25 per cent to one per cent reduction was witnessed in economic output.

In the year 2017- 2018, India’s GDP growth rate slowed to 6.7 per cent. It was the lowest GDP growth in four years. However, the GDP growth rate recovered from the second quarter of the year 2017-2018 and clocked 8.2 per cent in the second quarter of year 2018-2019.  By April 2017, 1.5 million jobs were lost as a result of the demonetization. In the year 2016-2017, the employment rate fell over one per cent from 42.59 per cent in 2016-2017 to 41.45 per cent in 2017-2018.

The demonetization policy negatively impacted a number of welfare schemes like Midday Meal Scheme, a central government initiative to improve the nutritional standing of school-age children, due to funds shortage. Although there are no reliable figures available which suggest the number of deaths linked to the demonetization policy, but BJP rivals have claimed that over 100 people died due to the policy.

Political Impacts

While understanding the reasons behind the introduction of the demonetization policy, it is important to go back to the 2014 election campaign when Modi promised voters to bring back the black money from abroad and deposit Rupees 15 lacs from it to bank accounts of every citizen. After assuming the power, the government took a number of initiatives to tackle the black economy but they yielded little results. Consequently, the promise of financial incentive was not materialized. Meanwhile, some analysts believe that the demonetization policy was a move by BJP to eliminate the black money hoard held by its rival prior to the Uttar Pradesh assembly elections.

A number of research studies have been conducted to ascertain as to what contributed in such a massive victory for BJP. The studies concluded that people voted for BJP because according to those voters, the demonetization policy resulted in making the corrupt rich suffer.

In subsequent months following the announcement of the demonetization policy, elections were to be held in seven states. The state elections were projected as a referendum on the demonetization policy. The narrative by BJP for election campaigning revolved around Modi’s commitment to fight corruption. Consequently, Modi’s party was able to form government in six out of seven states. A number of research studies have been conducted to ascertain as to what contributed in such a massive victory for BJP. The studies concluded that people voted for BJP because according to those voters, the demonetization policy resulted in making the corrupt rich suffer. Most of the voters who balloted for BJP were those who were unaffected by the fall in sales and those benefitting from lower prices. In brief, BJP’s election campaign narrative was successful in convincing voters that demonetization was a good move by the Modi government.

Causes of Failures

After gauging the success of objectives behind the demonetization policy, it can be said that Modi’s demonetization policy could not achieve its main objectives. There were a number of reasons because of which the policy failed to achieve its objectives. Firstly, black money holders kept only six per cent or less of their wealth as cash. According to a 2012 report of Central Board of Direct Taxes, black or shadow economy is largely based on benami properties, bullion and jewelry. Secondly, very wealthy and politically connected businessmen and their friends received prior warning about the policy, which allowed them to convert their money into smaller denominations. Thirdly, no prior study or research was conducted prior to introducing the demonetization policy. Fourthly, the demonetization policy was the brainchild of Anil Bokil, also known as Guru Uncle. Anil lacked any sound educational background or expertise in economics. He claimed that he is on a spiritual quest to fix the Indian economy. Lastly, there is not much evidence about the existence of the relationship between demonetization and the subsequent reduction in black money. Countries like North Korea, Myanmar and Nigeria introduced a demonetization policy but apart from brief success during the initial period, there was no significant impact in reducing black money.


Modi’s demonetization policy miserably failed in achieving its stated objectives. Sensing the failure of its policy, Modi government actively intervened to cut off information on how much cash was flowing back in the system. The lot which was worst hit by demonetization was not the corrupt elite but rural households and honest tax payers The impact of the demonetization policy is continued to be studied. The demonetization policy helped BJP in short term, in terms of winning state elections in six states, including the largest state Uttar Pradesh. If BJP suffers defeat in the upcoming general elections, the demonetization policy can be one of the several factors behind the loss.

Fahad Nabeel

Fahad Nabeel is an independent researcher, and he tweets @fahadnabeelfn

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