Currency Compression : An economic riposte to Black money

Currency compression as a way to impact the parallel economy?

The Mafia had taken control. Most transactions in the USA was in cash with 500, 1000, 5000, 10000 and even one lakh dollar notes. Black economy was thriving as the easy cash transaction was untraceable. In 1969, President Richard Nixon, in one bold stroke, withdrew all notes above $100. Life became tough for the Mafia and the corrupt. That was the turning point in the black economy of the USA. Coupled with the rise of plastic money in terms of credit cards and debit cards and extensive use of the banking system, black money started reducing from the USA economy.

Now, let us look at the Indian milieu

  • While the per capita income of US, UK and Japan is 40000$, 20000£ and 40,00,000¥, their highest currency denominator is 100$, 50£ and 10,000¥ respectively. That means that their ratio of per capita income to highest denominator currency is 400.
  • The per capita income of India is Rs 33000, while its highest denominator is Rs 1000, leading to a ratio of per capita income to highest currency denominator of 33.
  • 23% of the total currency in India is in Rs 100 notes, 44% in Rs 500 notes and 24% in Rs 1000 notes, thus 91% of the currency in circulation is in notes of Rs 100 or more.
  • 70% of the population of India spend less than Rs 20 per day.

Let us join the dots now, and look at some of the startling impact of the above reality on corruption and black money.

The ratio of the highest denominator to the per capita is abysmally low. Thus the Indian economy has a disproportional amount of higher denomination notes, more than 15 times of other developed economies. This anomaly is evident in our everyday life, as everyone’s wallets are bursting with rustling 100, 500 and 1000 Rupee notes. This easy access to high denomination leads to ease of untraceable cash transaction. The high denomination notes allows for ease of usage and storage, thus management of black money is simple and prevalent.

Most of the black money is used in land deals, property purchase, gold purchase and corruption. It is common knowledge that in a MP election, while the official spending is Rs 25 lakhs per candidate, no serious candidate spends anything less than Rs 10 crores. The money spent above the official limit will necessarily in high currency notes utilized to purchase votes. Therefore ease of cash transaction through high denominator notes is the fountainhead of the deteriorating political governance system. The acquisition and usage of corruption money by candidate leads to the complete incestual relationship between politicians, bureaucrats, media, contractors and thugs.

Thousands of crores of fake currency notes of Rs 500 and Rs 1000 denomination is coming into India from across the border every year. This inflow is perverting the economy and the internal security of India. It is the source of funding for almost all the anti-national activities in India. Each of this note takes around Rs 39 to produce.

Over 80% of the population is outside the formal economy, with very few having access to the banking system. The poor, due to variety of reasons including the hierarchical caste system, the lack of education and the receipts of their wages through cash – is kept out of the banking system. Thus they have no credibility in the economy – no bank or government scheme would find them credit worthy. Therefore in times of medical emergencies, crop failure, family functions and other eventualities, they have no option but to turn to the unregulated and exploitative informal sector like moneylender, chit funds etc.

Therefore, should we think about Arthakranti’s proposal for curbing the high denomination notes? Is there a necessity of using a mixture of incentive and disincentive mechanism to drive the large population towards using of the formal banking system?

Note: This article was published in Economic Times : 28-March-2011.

Mayank Gandhi


Remember those moments when you are so stirred by an idea that it fails to shake off, no matter how hard you try? It haunts you like an obsession. You are possessed by it. Often literary creations like a book or a poem, or theatrical performance, a movie experience, a musical instrumental rendition of a sonata or a ghazhal can gift such experiences. But can you ever imagine an academic subject like “Arthakranti” (Economic Revolution) could capture your imagination like an enticing piece of poetry, music or entertainment?

The subject expounds the basic concept of Arthakranti via a power point presentation, and, like an expert hacker; slews open the morass engulfing India’s economy today. By first demystifying the terms and phrases such as: what is currency? What defines the value of money? Why is money de-valued? Why prices rise? Who pays tax? Why pay tax? Who uses this money? And for what?; goes on to explain the basic idea of Arthakranti.

The Indian economy suffers from glaring inequities and we seem to be carrying the overload of these inadequacies for well over sixty years giving rise to greater social problems. And, nobody seems to want to put it right making the walk to progress protracted and arduous.

The presentation seems to bear no grudge against any intuition or government or individuals. Neither is it acerbic or contemptuous. It does not overwhelm you with numbers and figures. The entire exposition is based on very basic data made available by Reserve Bank. And the picture that emerges is frightening as it is dismal.

It likens India to the proverbial Titanic Ship comprising of three classes. The ship is punctured fatally by the glacier of globalization. The cold water has begun to rise in the steerage. The closely packed unorganized sector that dwells here, is are holding on to anything it can, shivering with the stab of the ice. The organized sector of the middle classes is blissfully unaware of the ravages happening below and is asleep in the security of their cabins, tickets to which they have bought with their ‘well-earned’ money. The top class is too busy enjoying the fruits of globalization and the outcome of their ‘hard work’. Yet no matter what class you belong, all are destined to eventually reach the bottom of the sea. Such is the state of Indian economy.

Similes are striking and tempting enough to make a small dent in your memory, to ‘forward’ them via sms or email or make for a provoking speech. But when such a state of affairs is augmented with numbers and figures and simple words of wisdom, then the one is forced to sit up and take notice. A slide pops on the screen that shows the flow of money in India.

The image is that of a four storied building, each floor bearing names from top to bottom as: Loan repayment; Governmental and administrative expenses; Judiciary, Law and Order, Primary Utilities, Developmental Infrastructure. The water tank providing water to this building was the National Tax Money. However, the pipe carrying the water is coiled and has too many perforations from where the money leaks. The largest leaks are that of faulty tax structure and black money. The black money has now turned into a sizable lake. The picture is telling tale of the motivations of why people want to evade tax and why black money grows. Inevitability the common-man is left with no option but to turn to the black pond for survival.

India is a paragon of paradoxes. Shopping malls are replete with things and not a single object can enter the home of the squatters facing the mall. Hotels are overflowing with people eating and half the population goes to bed hungry. Forty percent of the population earns no more than Rs 65/ – per day. Sixty percent of this population has never seen a Rs. 1000 bill. So, who is really served with Rs. 500 and Rs. 1000 bills?

In a prosperous country like USA, the largest bill is of $100/-. However in India 87% bills are of Rs1000 and Rs.500! So And who really uses these bills? Certainly not the common man of the third tier of the Titanic! Circulation of counterfeit bills gets on rise because of whom these bills serve. Ideally, no economy should need bills as exchange. All major financial transactions ought to work via cheques. This is one major step to withdraw Back money out of circulation. Once this is done with reliability, then following steps are in order:

  1. Abolish all taxes barring Customs duty.
  2. The entire Governmental tax collection is to be collected as Bank Tax and should amount only to 2%. Meaning, for every transaction done through Bank, the Bank will deduct 2% of the transacted amount as tax. This tax will then be distributed as follows:
    1. 0.7 % to go to central government.
    2. 0.6 % to go to State Government
    3. 0.35 % to go to local Governing bodies.
    4. 0.35% to stay with the Bank.

    This much amount is sufficient for the Government to run its business!

  3. Pull out any bill above Rs. 50 out of economic circulation.
  4. The upper limit for any cash transaction is Rs.2000/-.
  5. There is no guarantee or protection for any kind cash exchanges.

This apparently simple formula can work wonders for the economy and prove to be a panacea for all evils that plague it. And the outcome is obvious. The first thing it will do is to change the perception what money is. Money is a medium, a currency, a means to an end not a commodity to be hoarded or consumed. The entire ‘Parallel economy” built on black money will die its natural death. Due to the absence of bills of large denominations all money will become only “white” money. With such simplified taxation rules, its collection and distribution will become simple and clutter-free. A lot of human capital will be freed up for better work. Those engaged in finding loop holes to navigate through the taxation rules will also get free. The concept of Stamp-Duty will become archaic. Businesses and entrepreneurial spirit in the country will find new life to work more and create more and create clean wealth.

The business of counterfeit bills will find its grave. The neighboring terrorist/enemies will hit a dead end because a significant economic tool in their hands is destroyed.

Soaring prices will stay under control, and all of us can have a better life.

Of course this looks like a Utopia one dreams about. And there are so many who scoff it off as a romantic ideal never to be achieved. “It is not so easy to obviate black money from the System” they warn, “don’t live in the fool’s paradise”.

But all revolutions commence in the womb of innocence. They have been spear-headed by the dreamers and the innocent. Take M. K Gandhi for example. He stamped out centuries old British rule through a blood-less revolution. And Arthakranti is not even a revolution but merely a correction of an aberration in our Economy. It is an appeal to the sane and willful, like the sharp yet gently earnest treble note in music, to sweeten the melody.

It is alright to imagine Arthakranti to be that pipe dream of Utopia. But what could be wrong to dream such dreams and work towards its fulfillment? Doesn’t working towards such fulfillment bring meaning to life?

There are those who want to be on the side of the dreamers and well-wishers and wanting equity in all spheres of life. And, there those who oppose it.

The question is: which side do you want to be on?

But one thing is for sure: once the critical mass is awakened there is no stopping the realization of this dream. And one day we may be able to tell our grandchildren with justified pride that I was a part of revolution that made your life easier today!