Demonetization in layman’s term is the eviction of a particular currency/tender present in the economy from circulation and thus replacing the same with a new currency which may aim for several outcomes like the corruption-free economy, black money removal, controlling inflation, stop funding of illegal activity, etc.
Examples of Demonetization
The US went for demonetization of all noted above $100 on July 14, 1969, which brought about positive results to the economy. This was primarily aimed at eradicating the black money present in the system and the move was highly acclaimed by all. This decision can sometimes be also linked to the evolution of the US Banking system.
Considering the recent demonetization India faced, the country’s central bank or reserve bank of India stated that though it was announced where tenders of 500 and 1000 were declared as banned and were asked to get it exchanged by new tenders, it was not that beneficial as almost all the old tenders were deposited or either exchanged with the new tenders. The estimated figure stands as 99% or around $238.7 billion.
It meant that corrupt individuals and businessmen who held the illicit wealth managed to safeguard it. The only positive impact which came out of the decision was the investigation of close to 1.8 million bank accounts where there was a sudden huge volume of transactions and also numerous individuals who were taken for questioning to identify and tax the black money.
Effects of Demonetization
- This policy aims to make the country corruption-free. The individuals who are used to taking bribes to some extent limit their activity as they are scared to give the justification for the unaccounted cash and can easily come under the limelight of taxation authorities.
- It helps the government of a country to track the source of black money. In India, for example, PAN (Permanent Account Number) is mandatory for any high-value deposits made and thus this income tax authority can easily get hold of a person who is exchanging or depositing a lot amount of cash during demonetization. This will help them to tax the person for unaccounted income.
- This policy also stops the funding of illegal activities like terrorism, human trafficking, money laundering, etc. These illegal activities basically survive on unaccounted money and bringing about such radical monetary policies will put a halt to them.
- The maximum positive effect of demonetization can be seen in the stoppage of the circulation of fake currencies. Most of the fake currencies usually exist in the form of high-value tenders and this takes the biggest hit.
- It also brings about a habit of going cashless and adopting digital forms of payment which are very demanding these days.
- Banks offer lower lending rates because the money flows from public hands to the bank, they are in a better position to manage the liquidity which means lower cost of funds and thus lower lending rates too.
- It also brings about the behavior of savings as people tend to deposit the money in their bank account rather than keeping it in physical form.
- Abolishing old currency notes and replacing it with newer ones means increased printing costs. This is generally borne by the government of a particular country or economy.
- Demonetization is more directed to the removal of black money in circulation and thus people holding the same in other forms of assets like gold, real estate, land, etc. are generally not a victim of this policy and get away with it.
- The initial chaos that it creates is massive. The entire nation has to reach the bank which is limited in number to handle the population thus resulting in long queues, wastage of productive hours and temporary losses to small businesses.
- Many people have to suffer from issues like non-payment of wages or timely payment of wages because even companies find it a struggle to manage their daily required cash for operations.
- At times the overall economy may face the situation of cash crunch or liquidityLiquidityLiquidity shows the ease of converting the assets or the securities of the company into the cash. Liquidity is the ability of the firm to pay off the current liabilities with the current assets it possesses. problems because people speculate that there may be no cash in the market and thus start holding it back with themselves.
- Spending power comes down during such phases and people tend to spend less and businesses suffer losses.
- The cashless facility may not always work since not all vendors are equipped with the proper technology and infrastructure thus creates a lot of problems even in buying simple consumables.
- It slows down the economy as black money plays a big role in inflating the GDP number.
- It is generally seen that government or leaders from all over the world who have tried demonetization failed to see their big dream in a concrete way. In a process to punish the part of the society involved in illegal activities government ended up causing trouble or inconveniences to people who were compliant thoroughly. The main result is measured by how the common man or the general people of a country look it at and adapts to it.
- A similar scenario was observed with the recent demonetization India faced. The basic purpose of it was never fulfilled since 99% of the banned tenders were again flushed into the system and it was only the common people who had to suffer. Saying so it also doesn’t mean there were no positive impacts of it.
- Terrorist activities have come down drastically and also the country has taxed several unaccounted cash holders and audited numerous bank accounts which ultimately ended up for the boon of the country. It is up to the people now to understand this trade-off in a positive mind-set or vice versa.
- When people consider the short term benefit of such policies they are really in scarcity but on the contrary when one analyses the long term impact they are in plenty. Generally, industrial sectors like FMCG, real estate, constructions, etc. which are greatly dependant on cash initially takes the hit but parallelly increased government spending and enhanced financial inclusion will give a boost to the economy over a prolonged period of time.
Demonetization is definitely a very radical and positive step that a government takes aim at the betterment of the economy/country but this should also be implemented properly and planned well to avoid hassles to the common public and serious harm to the economy.
This has been a guide to what is demonetization and its meaning. Here we discuss the practical examples of demonetization along with its effects and disadvantages. You can learn more about financing from the following articles –