Modi's shrewd attack on black money

As America was voting for a new President, Prime Minister Narendra Modi went on air to announce radical new steps to curb the black money economy, estimated at 20 per cent of India's $2.3 trillion GDP, by immediately banning 500-Rupee and 1000-Rupee notes (worth approximately $7 and $14, respectively).

Modi's shock therapy has sent a shudder through the system, forcing none other than Congress heir apparent Rahul Gandhi to stand in queue to wait his chance, like hundreds of ordinary Indians, to deposit old currency notes and take back new ones.

Other Indians have employed more drastic measures. High currency notes were found floating in the Ganga river in Uttar Pradesh the other day, while hundreds of torn notes were overflowing out of a garbage bin in central Kolkata over the weekend. Long queues persist at banks and ATMs, which have restricted the amounts to be dispensed for the next few days because of the rush caused by the suddenness of the decision.

But Modi's ambitious move towards demonetization is certainly the strongest war on the parallel black economy that has plagued India for decades – as much as 86 per cent of all transactions are estimated to be in cash. The move is also expected to have a major impact on counterfeiting and drug markets used by terrorist networks, especially in India's neighbourhood, and traffickers worldwide.

The current antipathy towards Pakistan by the Modi government doesn't hide the fact that large amounts of fake currency is pumped into India, especially by militant-drug networks from the Afghanistan-Pakistan region and through the open, 1868 km-long border between Nepal and India.

It also has the real potential to reduce the amount of cash in the system and move India towards a cashless economy. An Indian official who spoke on the condition of anonymity said the goal is to move India closer to Australia or Japan, where cash is estimated to be only 30-35 per cent of the economy.

Certainly, the prime minister knows it is difficult for him to make an omelette without breaking any eggs. Bank branches are few and far between in large parts of rural India, where farming has never been taxed. Finance minister Arun Jaitley says it is time small-time farmers as well as big tax-evaders put their money into bank accounts rather than keep it in soiled bags or under their mattresses.

Meanwhile, the deadline for exchanging old notes is less than ten days away. A public holiday in northern India on Monday meant that banks were shut, thereby exacerbating the enormous inconveniences faced by people in that region.

Slowly, though, the tide may be turning. In the week since demonetization was announced, as much as $44 billion has been deposited in 180 million transactions, amounting to about half of India's budget deficit. This is said to be three times the GDP of Iceland.

Critics point out that only part of the black money economy – some say as low as 6 per cent – is kept in the form of cash rupees, and that the big fish prefer a perfect circle in other high-value currencies, such as the US dollar and Euro. Real estate and jewelry are other popular destinations for those who want to evade taxes under any circumstances. Delhi and Mumbai property prices have been on par with Tokyo and New York for some time.

Certainly, some of the timing can be explained by the fact that the all-important election in Uttar Pradesh and other states are round the corner. All political parties agree, off the record of course, that cash is the real grease that moves forward the fundamentals of democracy, which is why all of them have defied the Election Commission's request so far to subject their accounts to scrutiny.

Cynics believe the Modi-led Bharatiya Janata Party has already protected itself by putting money into bank accounts on the eve of this move – reports name the BJP doing this in West Bengal – and that the blow has now fallen on the cash stash of opposition parties.

Certainly, Modi is obsessed with the question of recovering illegally got gains undermining the just processes of governance -- and rightfully so. It was a major element in his election campaign in mid-2014 and an amnesty scheme only two months ago netted $90 million. Income-tax officials are now promising to synchronise tax statements with the amount of money people are depositing in their accounts and slapping penalties of 250 per cent on the excess cash.

Along with the Goods & Services Tax, a key economic reform which promises to unify the plethora of taxes across the country, Modi's war on the black market promises to reset the Indian economy.

Unfortunately, the prime minister and his team have not been able to broadcast the big-picture benefits of the crackdown and explain to the people the importance of short-term suffering. A constant messaging of reassurance is the need of the hour.