World Steps Up to Study India's Cash Ban While Modi Looks Away

Modi’s administration hasn’t assessed the impact of one of history’s most sweeping changes in currency policy.

(Bloomberg) -- Prime Minister Narendra Modi’s administration hasn’t assessed the impact of one of history’s most sweeping changes in currency policy.

“No Madam,” was the Indian junior finance minister’s reply to a lawmaker’s question in parliament Dec. 14 on whether the government had studied the aftereffects of the move in November 2016 to invalidate almost all of the country’s currency overnight. One of the chief aims of the exercise was to curb corruption in Asia’s third-largest economy.

The decision to look away from demonetization may be an attempt to distance authorities from what’s since been termed ‘a total failure’ and a ‘draconian’ act. However, economists all over the world have dug through the rich trove of data, and here’s what they found about the monetary shock that still lingers over India’s economy, politics, society and markets:

World Steps Up to Study India's Cash Ban While Modi Looks Away

Growth Hit

Gabriel Chodorow-Reich, economics professor at Harvard University and his colleague Gita Gopinath, now chief economist of the International Monetary Fund, wrote in a paper along with Goldman Sachs Group Inc.’s Chief India Economist Prachi Mishra and the Reserve Bank of India’s Abhinav Narayanan:

  • It was comparable to a 2 percentage point tightening in the key policy rate and reduced economic activity by at least 3 percentage points in the months immediately after.
  • However, the decline in output was relatively smaller and wasn’t fully seen in national gross domestic data, given that these numbers don’t completely capture India’s vast informal economy.
  • They called for deeper evaluations of the long-term consequences of demonetization.

Policy Errors

Frederick Betz, Timothy R. Anderson and Aurobindh Kalathil Puthanpura at Portland State University used the exercise to test the validity of monetary theory:

  • The move supported the Chartalist School, which holds that there are crucial differences between currencies in an economy.
  • The withdrawal of so-called Fiat Money, which is currency issued by a government, reduced the availability of Commodity Money, which is used in trade and commerce.
  • The gap could not be filled by Managed Money, the term used for organized finance, because a large portion of the population lacked bank accounts and the government was slow in replacing currency bills.
  • It’s clear policy makers didn’t consider how money interacts in India, they wrote. “Was it bad implementation of good policy or bad implementation of bad policy? It was both.”

Voters’ Response

Rikhil R. Bhavnani and Mark Copelovitch, associate professors of political science at the University of Wisconsin–Madison, say:

  • The economic impact was felt most acutely in relatively “unbanked” and cash-dependent areas.
  • Still in elections held soon after, Modi’s Bharatiya Janata Party was penalized the least in relatively unbanked districts. This shows that a substantial share of voters supported demonetization despite its negative economic effects.
  • If Modi hadn’t framed demonetization as a fight against corruption, there might have been a loss of support to the BJP.

Missed Targets

Dhammika Dharmapala and Vikramaditya S. Khanna, law professors at the universities of Chicago and Michigan, assessed the stock market:

  • The markets always knew that demonetization would have only a “modest at best” impact on curbing corruption.
  • “There is little evidence that sectors thought to be associated with greater tax evasion or corruption experienced significantly different returns.”
  • However, banks gained as investors penciled in the prospect of bigger deposits and state-owned firms also rose. The latter may be due to perceptions of future corruption at government-backed firms that are seen as particularly prone to graft.

Less is More

Economists from Cambridge, Harvard and Stanford on communication:

  • Implementation of the policy was marked by chaos and confusion as policy makers announced and revised decisions daily.
  • When there is common knowledge about how information is delivered -- press conferences from distant Delhi, in the case of demonetization -- providing more people with information deters their willingness to ask questions and can actually reduce knowledge.

Unexplored Consequences

Psychiatrists Arun Enara and Mahesh R. Gowda delved into the stresses:

  • India has the largest growing middle class in the world, which was largely isolated from the last major economic crisis in 1991. But demonetization directly hit their lives.
  • “These woes range from the panic and anxiety in the initial few weeks from the many announcements that followed, to acute psychotic episodes.”
  • They shared six case details from a single clinic in Bengaluru, including:
    • An entrepreneur who feared he was being persecuted
    • A homemaker who was worried she’d be penalized for the cash she’d saved
    • An indebted film producer died weeks after he complained his phones were tapped
    • A police officer who was diagnosed as suicidal
  • “The people who were affected are seemingly not directly linked to black money,” the researchers said, using the colloquial term for cash stashed away illegally. “Some of their annual incomes did not even reach the tax-paying slab.”

To contact the reporter on this story: Jeanette Rodrigues in Mumbai at

To contact the editors responsible for this story: Sam Mamudi at, Karthikeyan Sundaram, Ravil Shirodkar

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