On 8 November, Prime Minister Narendra Modi announced one of the biggest monetary reforms that India has seen. Effective from midnight that very night, all ₹500 and ₹1000 notes were going to cease to be legal tender. The news of the demonetization is still creating ripples (and confusion) even after a few days, so here's a ready-reckoner.
What is the currency swap all about?
In technical terms, the existing currency notes of ₹500 and Rs. 1,000 are no longer legal tender. In effect, you will no longer be able to use these notes for any monetary transactions.
What's the aim of this move?
This government aims to solve multiple problems at once with demonization.
- Curbing black money hoarding: High denomination bank notes are used for storage of unaccounted wealth. This has been proven by large cash recoveries made by law enforcement agencies during raids. This move will make most of the black money hoarded at home worthless.
- Stopping circulation of counterfeit notes: Fake currency notes have been a big menace for years now. It is difficult to easily identify genuine bank notes from fake ones and the use of counterfeit currency is causing an adverse effect on our economy. The blanket ban on existing ₹500 and ₹1000 notes will make counterfeit cash in these denominations worthless—a very desirable outcome.
- Money laundering and terror funding: Black money often finances illicit operations. Unaccounted money often finds its way towards money laundering (aka hawala route), corrupt practices or towards funding of terror activities within or outside the country. The ban will help scuttle the funding and turn these operations.
How are we impacted in our daily lives?
This move impacts all of us on a different scale. Let's find out how:
- Scarcity of cash: The government has set a limit of ₹2000 per day per card till 18 November, 2016, on cash withdrawals from ATMs; money will be dispensed in ₹100 and ₹50 notes only. Considering the high demand, the availability of cash is set to be disrupted. Note that the ATM cash limit will be raised to ₹4000 per day from 19 November—which is still not convenient if we require large amounts of cash. Expect your ATMs to have glitches as ₹100 will be the highest tender for the next few days.
- Paying for daily needs: Routine transactions are made in cash and hence its scarcity will hamper our daily lives, especially for the purchase of groceries from local vendors, local conveyance and other cash buys.
To reduce this inconvenience to the general public, as a transitional measure, the government from 9-11 November allowed the use of high denomination notes in certain places. These were government hospitals and pharmacies, for purchase of bus, rail, airlines tickets at approved ticketing counters, purchases at consumer cooperative stores, petrol, diesel and gas stations operated by PSUs and for payments at crematorium and burial grounds. This "grace period" though has ended now.
How this demonetization impacts us at a macro level
This move is certainly disrupting the cash economy which is quite prevalent in the unorganized sector. Let's also see how it impacts different spheres of the economy:
- Real estate: Cash (and black money) is undoubtedly an integral part of real estate in India. No wonder the Realty Index at BSE plunged 13% soon after the news was out. On the upside, this move is expected to bring down black money transactions in the sector which will help lower real estate prices. This will bring cheer to new buyers by bringing down the sky-rocketing prices to affordable levels.
- Gold: Demand for gold is expected to rise as an alternate method of storing cash. This was reflected in the market sentiments as gold prices went up after this decision.
- Kirana Stores and vegetable vendors: While a few households have shifted to online purchases of groceries and other domestic goods, most people rely on local markets for their daily shopping. This part of the economy thrives on cash. Scarcity of cash in the short run will hamper the flow of funds and transactions in the near term. However, with the advent of fin-tech companies like Paytm, these stores will also progress towards the digital economy in times to come. For a few days, they will lose business as customers will resort to online shopping to conserve their scarce liquidity. A local kathi roll vendor near my home is already accepting Paytm payments!
- Banks and economy: Since excess cash will now find its way to banks and post offices, there'll be an increase in the money in active circulation within the economy and will drive consumption and growth in the long run. However as discussed earlier, the short term impact might be negative.
The course of action now
Here is what we need to do.
- Exchange of notes: Notes of ₹500 and ₹1000 can be exchanged at banks for equivalent value up to a maximum of ₹4000 per day, after giving proof of identity and details as specified by the RBI. This limit of ₹4000 shall be reviewed by the government in a couple of weeks.
- Deposit in own account: The existing high denomination notes in hand can be deposited in one's own accounts held with banks or post offices until 30 December, 2016, without any limit. Note that deposits over ₹2.5 lakhs which do not match with declared sources of income will be subject to tax and 200% penalty.
- Deposit in third party account: You can also deposit the cash in a third party account provided you have an express mandate from the account holder to do so.
- Exchange in foreign currency for foreign nationals: If you happen to be a foreign national, you can exchange the notes for foreign currency up to ₹5000 at designated counters from 9-11 November after providing valid purchase details of the Indian currency.
- Restriction of cash withdrawals: Cash withdrawal from bank accounts will be restricted to ₹10,000 per day and ₹20,000 per week until 24 November 2016.
- Extended time window for valid reasons: In case you miss the deadline of 30st December to exchange your cash, you can get it changed at the RBI offices.
On a concluding note, despite the inconveniences, we must support this move as it is beneficial for our economy.
For more information, also read the RBI FAQ on the currency ban.
This post was previously published on Money View.