Demonetization: A Bold Economic Reform

27 Apr 2017

An unexpected currency swap drive was launched on 8 November last year, as a part of which all 500 and 1000 rupee notes were demonetized as legal tender and were to be exchanged for new tender in 500 and 2000 rupee denominations. This move, which removed 86% of the currency in circulation at one stroke, was aimed at tackling the burgeoning black market and curbing counterfeit currency. Given the scale of the operation and the expanse of the informal sector, there were many initial hurdles in the implementation of the measure, but with the issue of sufficient volumes of replacement currency notes, transactions are back to normal.

The demonetization drive is expected to result in significant benefits over the longer time horizon in the form of expansion of the formal economy, less use of cash, expansion of digital financial systems, and extension of the tax net.

Estimates suggest that the underground economy in India extends to about 50% of India’s GDP. Though the corruption problem cannot be tackled through a single measure, the demonetization drive seems to have had significant impact, as India’s score in Transparency International’s Corruption Perception Index has improved from 38 in 2015 to 40 in 2016.

Contrary to expectations that the GDP growth rate would suffer from demand compression due to demonetization, Q3 data and other indicators have shown resilience.

Overall, the move has been welcomed by the general public and industry, and has worked to restore confidence that the Government would continue to take bold economic reform measures.

Source: CII Communique April 2017

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