Cash Ban Experiment

On November 8, India’s Prime Minister Narendra Modi stunned the country with an announcement that 500-rupee ($7.30) and 1,000-rupee notes, which account for more than 85 percent of the money supply, would cease to be legal tender immediately.

India’s Cash-Canceling Experiment set off a wave of panic that is still underway.


The announcement set off days of turmoil as millions of Indians tried to swap their suddenly worthless old notes for hard-to-find new notes of 500 and 2,000 rupees or older ones in smaller denominations. On Nov. 17 the central bank tried, with little effect, to reassure the nation that the situation was under control. “There is sufficient supply of notes,” the Reserve Bank of India said in a statement. “Members of the public are requested not to panic.”

Modi’s action is aimed squarely at the cash-driven shadow economy, which accounts for about 25 percent of gross domestic product. Fewer than 5 percent of all Indians file tax returns. Many shop owners use cash for their transactions and don’t declare their income. Wealthy Indians often avoid taxes by paying cash for property and jewelry. Those businesses “are where black money is hidden,” says Capital Economics economist Shilan Shah. With so much money going untaxed, Indian governments have had difficulty funding infrastructure projects and other public spending.

Tax officials will get reports on cash deposits in excess of 250,000 rupees and compare those deposits with income disclosures. The authorities can demand a tax payment and impose a penalty equal to 200 percent of the tax owed. The government estimates that as much as 5 trillion out of 15 trillion rupees will remain unredeemed as tax evaders unwilling to risk detection accept large losses.

As cash disappears, so does economic activity. For three decades, Ashok Kumar has been a trader at Azadpur Mandi, Delhi’s largest fruit and vegetable market, where much of the buying and selling involves the now-banned notes. Since Modi’s announcement, Kumar says, cash transactions have nearly stopped. “We are sitting almost idle,” he says. “There are no buyers.”

On Highway 24 between New Delhi and the town of Dadri, gas stations are empty and trucks stranded. Drivers spend their days playing cards, unable to operate their vehicles because transport company owners can’t get the cash to buy fuel or pay the drivers their 100-rupee daily food allowance. “There’s no work,” says Sundar Singh, a 38-year-old truck driver from Aligarh, a city about 90 miles southeast of Delhi. “I can’t even charge my cell phone,” he says, because he doesn’t have any change.

86% of Cash in India Withdrawn


The Economist reports a crackdown on India’s black economy makes life harder for everyone as India Grapples Withdrawal of 86% of Cash in Circulation.

A NEW strain of trickle-down economics has been spawned by the decision, on November 8th, to withdraw the bulk of India’s banknotes by the end of this year. As holders of now-useless 500-and 1,000-rupee ($15) notes rushed to deposit them or part-exchange them for new notes, an e-commerce site offered helpers, at 90 rupees an hour, to queue outside banks in order to save the well-off the bother.

Elsewhere, a chronic shortage of banknotes in a cash-dominated economy has left most trades depressed. Seven out of ten kiranas (family-owned grocers) have suffered a decline in business, according to a survey by Nielsen, a consultancy. Supply chains, in which wholesalers and truckers deal mostly in cash, have fractured. Some 20-40% less farm produce reached markets in the days after the reform. City folk admit to hoarding the 100-rupee note, the largest of the old notes to remain legal tender. Taxi drivers refuse to break the new 2,000-rupee note. Road-tolls have been suspended until at least November 24th, to prevent queues. Beggars have disappeared from parts of Delhi; no one has spare change.

India’s prime minister, Narendra Modi, is gambling that this temporary pain will be worth it. His goal is to flush out “black money”, stores of wealth that bypass the tax system, finance election campaigns and grease the wheels of high-level corruption. An enforced swap of high-value notes, say the reform’s boosters, acts as a tax on holders of illicit wealth. The element of surprise is disruptive but without it, there would be time for black-money holders to launder their funds by purchasing gold, foreign currency or property. A tight deadline makes it hard for holders of large stashes of notes to swap or deposit them without alerting the tax authorities.

This swiftness comes with a cost. Aside from cases where hyperinflation has rendered a currency worthless, such swaps generally take place over long periods to avoid disrupting commerce. GDP growth might be as much as two percentage points lower this quarter and next before returning to normal as the money stock is replenished, reckons Pranjul Bhandari of HSBC, a bank. Much depends on how quickly new cash can be swapped for old. It has not been a smooth process so far. The Reserve Bank of India (RBI), which issues notes, waited for six days before setting up a task force to ensure ATMs could dispense the new 2,000-rupee note. Only a quarter of ATMs in four big cities were full on November 21st, according to Goldman Sachs.

Despite the distress, and the raucous protests, the reform seems to have widespread support. Bashing the rich is popular even if the poor are inconvenienced. Some may also hope it will bring new state benefits for the poor and make housing more affordable. Indian real estate is so expensive in part because it is a store of illicit funds. In theory, whatever black money cannot be laundered will be worthless, yielding a gain for government’s finances and perhaps ultimately for poorer Indians. But such a boost cannot be relied upon. The RBI has not yet formally said that old notes will be cancelled for good, says Ashish Gupta of Credit Suisse, and it may be loth to do so. No central bank likes to say it no longer stands behind the paper it issues.

Cash Chaos Intensifies

Bloombergd reports India’s Modi Holds to 50-Day Pledge as Cash Chaos Intensifies.

Indian Prime Minister Narendra Modi used a radio address Sunday to assure the country that the cash crisis caused by his plan to remove large-denomination bills from circulation will ease within his proposed 50-day period.

Modi said in the monthly radio address that the difficulties India has encountered since he announced a ban on the use of 500 rupee ($7.30) and 1,000 rupee notes in a bid to curb graft should come to an end within the period he originally outlined. The policy, which requires holders of the bills to deposit them in a bank, will help curb tax evasion and the country will start to see its benefits soon, Modi told the nation. He also warned people against using the poor and their new post office bank accounts to recycle money.

The change has caused problems for individuals trying to pay for everything from weddings to funerals because ATMs are running out of smaller bills, and caused headaches for the Reserve Bank of India, which has seen a surge in banking liquidity pose an inflation risk.

A banking system awash with unused cash could cause borrowing costs to crash and lead to inflation, threatening to hurt financial stability in the $2 trillion economy. Indian sovereign bonds, which have rallied in November, may react negatively to the news, according to South African lender FirstRand Ltd.

Cash Still King in Japan


In contrast to India, Cash Is Still King in Japan.

As anyone who has visited Japan knows, cash is still king.

Even though many places now take credit cards, Apple Pay and other forms of cashless technology, the actual amount of notes and coins circulating in the country has doubled in 20 years. And that’s while the economy and population has shrunk.

More than 101 trillion yen ($966 billion) of cash was circulating at the end of October. It was used for more than 80 percent of transactions by value in 2014.

The tendency of Japanese to prefer cash means that any attempt to further lower negative interest rates or to impose them on private bank accounts might push people to take their money from the banking system and add it to their stash under the mattress.

The decision in Europe to stop printing the 500 euro note prompted concerns that governments were trying to make it harder to hold cash, and thus make it easier to impose deeper negative interest rates.

In Sweden, where the vast majority of payments don’t use cash and many bank branches won’t even accept cash deposits and withdrawals, the central bank argued last year that negative rates function better in a cashless society.

Rates are minus 0.5 percent in Sweden, but that isn’t an option in Japan, which “is a cash-based economy,” according to former Bank of Japan board member Sayuri Shirai.

Cash Transactions


Negative Interest Rates Logically Impossible

Negative interest rates and currency bans are nothing more than government sponsored financial repression.

Negative interest rates imply logical absurdities such as one would rather have $90 in ten years than $100 today.

Negative interest rates do not occur naturally. Rather, the must be imposed on savers by repressive forces.

There can never be negative time preference.

Note that I am talking about interest rates, not storage fees, a completely different thing.

Free Market in Currency

I am in favor of a free market in currency. Whatever consumers decided would be fine by me. Gold and silver would be the logical choices, as they have been for thousands of years.

Mike “Mish” Shedlock