note demonetisation

As queues lengthen and banks run out of cash, the danger is of India losing patience

The situation has gone from bad to worse – is likely to worsen in the days to come.

Ever since the demonetisation of Rs 500 and Rs 1,000 currency notes was announced by Prime Minister Narendra Modi on November 8, the social media has been abuzz with how some pain has to be endured to make gains in the war against black money, counterfeit currency and terror funding.

The situation on the ground, however, has not only gone from bad to worse but is only going to worsen further.

What are we up against?

Preparation needed

In a single announcement, the prime minister declared 86% of the currency as not being legal tender. The faith in the currency was fundamentally shaken when he announced that the notes of these two denominations were no longer acceptable for exchange except at some specified counters of banks and post offices.

That meant that 86% of the circulation had been instantaneously removed.

If this were to be replaced in a reasonable time, much preparation should have been made. The alternate currency that is needed for getting this scheme going should have been printed, ready to be distributed at a proximate point.

The mix of the currency had to be such that it was practically possible for people to readily and instantaneously use the currency when it got into their hands. A simulation of how the distribution mechanism would work with many scenarios had to be worked out.

It seems the secrecy of the operation has completely prevented adequate preparation. But has the extent of the exercise even been thought through?

Just to get an idea of the magnitude of the logistics, imagine conducting an election where we expect every adult to participate. Now imagine the effort which goes into a routine Lok Sabha election exercise when we know that several people will choose not to participate. Even then the Election Commission works for months on end to get everything in order. This participation, on the other hand, is not just in showing your identity and voting, but transacting. Now, look at the number of outlets that are there for carrying out this mammoth exercise. And remember that people cannot carry on with their livelihoods if they do not participate, though even this participation and allowed withdrawals in replacement currency will not see them through the entire cycle of the 50-day window provided for the exchange of the old notes.

And we seem to be addressing this problem without any preparation on the distributional logistics whatsoever.

In short, we are in a massive mess.

Distribution network

The network we have at our disposal to carry out this massive operation are bank branches and post offices, and the teller machines. Since the design of the scheme is not about merely flushing out counterfeits (which in itself would have been a good enough target to achieve) but involves accounting of the currency with the source, the distribution points cannot be more decentralised than a bank branch. The notes have to be checked for their authenticity – they have to be accounted for against a particular person’s identity and accepted. There are two aspects to this, accepting old currency and dispensing new as replacement.

The problem is this: My money which is in my hand is rendered useless; my money which was already in the bank is locked up. So, what is sapped out is not only the cash in circulation, but the entire resources at the command. Thanks for small mercies that electronic transactions are not affected.

The dispensing function (once the cash is in the banking system) can be handled both in person and through machines. Unfortunately, the machines cannot handle the new high denomination currency, given the difference in size of the notes – this is something that could have been fixed in advance, but only if there was no secrecy involved. This could also have been fixed if the new currency was designed to be compatible with extant configuration of ATMs. As a result, we now have a situation where the 14% stock of small value currency is the one that will act as the transitory currency for exchange of high denomination non-legal tender through ATMs. Expect banks to run out of Rs 100 currency very very soon, if they already have not.

Moreover, even these machines are concentrated in urban areas. The total of 18,000 regional rural bank branches have around 1,000 ATMs in all. That shows the rural-urban skew. It would be no different for the commercial banks where the urban ATMs outstrip the rural numbers. So, expect much greater hardships as the distance from the financial hub increases.

The machines are handling smaller denominations and need to be refilled faster. Do we have the transport facility to multiply the trips for refills? The distribution logistics will be stretched, but even before that we will run out of currency. So, let us be prepared for large number of non-functioning ATMs for a few days, as they get recalibrated for the new sizes.

The post offices are not really a solution as they are not equipped to handle this. There are only about 30,000 departmental post offices and the rest of the postal outlets are handled by grameen dak sevaks or the village postal workers. The dak sevaks are possibly not equipped to handle this work. The postal department also has around 1,000 ATMs but they are not connected with the banking system. However, they could at least take a bit of load for people saving through the postal system. One could have prepared for this inter-operability earlier.

Digital divide

Now that there is a shortage, the tendency of anybody who has liquid legal tender is to conserve, hoard and not circulate. People will want to ask for more and more liquid legal tender as and when it is available.

In this country, we have never seen a real run on the bank – except for a possible run on ICICI bank in the past, and a failure of Madhavpura Mercantile Co-operative Bank, which are instances of a potential crisis well handled. But they were small and limited in nature, when the rest of the banking system was up and about. But what we are going to see now is a run on the banking system. The crisis we stare at is unprecedented and it would not be an exaggeration to say that this will turn out to be the worst man-made disaster.

The replacement currency as and when it comes into circulation will be in denominations of Rs 500 and Rs 2000. This does not help. The Rs 2,000 currency puts additional strain on the lower denomination currencies when small transactions are to be undertaken, as people want the balance back. But those smaller currencies are already under tremendous stress.

Right now, the ones who are celebrating the assault on black money, terrorism and counterfeits and pontificating that we should bear a bit of pain for a great gain are the ones who are in the electronic economy.

We are abandoning the auto-rickshaws for cab aggregators, the roadside eateries for card based home delivery, the local kirana store for on-line groceries and buying vegetables from the superstore instead of the push carts. We are holding on hoarding a few hundred rupee notes, not even parting with them as tips.

Imagine these service providers whom we are bypassing are the ones who are not in the digital economy, and are losing business. They are very large in number. They either have to work, or stand in long queues for getting their own legitimate hard-earned cash.

The digital divide was never more stark.

And also spare a thought for all the senior citizens – they have to produce a life certificate from the branch officials in order to get the next pension, for this is the month of November.

The informal economy people are patient, and are making informal arrangements in the supply chain. But for how long? If banks run out of cash faster than people run out of patience, there will be chaos. Would the system be able to infuse enough circulation before the informal arrangements and faith breaks apart?

This experiment will see much bloodshed and several heads will roll.

MS Sriram is Visiting Faculty, Centre for Public Policy, IIM Bangalore

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