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Monday
Nov142016

Russell Stamets: India Cancels Corruption

Like the miasma of foul air and failed policies that choked New Delhi and closed schools last week, the Indian government’s sudden declaration that more than 80 percent of its circulating currency is invalid left many across the country stung and choked. 

The government declared that it took the sudden and drastic action to attack tax evasion and terrorist funding. Empty ATMs, long lines at banks and tales of significant suffering, particularly by the poor, have begun to emerge. While the immediate inconvenience and suffering are clear and the long-term effects obscure, the Indian public generally loves the move.

There is little question that India has a significant problem with “black” money. The parallel economy is said to be at least 30 percent of GDP. Only about 1 percent of India’s population pays taxes. It is widely believed that intelligence agencies for neighboring rival Pakistan print fake Indian rupees to pay for terrorist activities in India. And unaccounted cash is the lifeblood of the corruption that permeates nearly every aspect of life in India.

Will it work?

Academic studies have pointed out the role of large denominations in funding crime. The European Union has announced its intention to remove the so-called 500 Euro “Bin Laden” bank note by 2018. Discussions about removing the $100 bill from circulation appear occasionally. And an earlier Indian prime minister (A Gujarati, like Modi) banned notes of Rupees 1000 and greater. However, those large-value notes were not widely used by the general public.

Inflation, India’s rising prosperity and the logistics of stocking ATMs means that the notes banned this week have become overwhelmingly common. The earlier ban on large denominations didn’t seem to work, and the current situation means the impact of this ban is huge.

It’s hard to overestimate the role of cash in daily life in India. From birth to death cash is an essential companion. Grooms in some states are given garlands made of high-denomination notes, and politicians have been given garlands of notes equivalent to about $1 million. More critically, people in rural areas have little access to the formal banking system and irregular or nonexistent power and telecommunications access, which makes a cash economy critical and participation in the digital economy practically impossible.

The impact on petty traders and the marginalized has been significant. Many rural residents travel to large cities for medical treatment, for instance, and invariably bring cash. While the largely inadequate government health facilities will still accept the banned notes, the private hospitals that provide the broadest access and highest quality care are not allowed to accept them. There are widespread reports of patients delaying treatment, of families stuck with cash that is now worthless and no way to return to their rural homes or to feed themselves. Government officials have acknowledged difficulties but argue the pain is worth meeting their policy goals.

There might be greater confidence that the long-term outcome will be positive if the government’s reasoning were clearer. Like the GlaxoSmthKline case in China, calling the Indian government’s actions an unalloyed strike for justice and transparency would be profoundly naïve.

Indian elections are traditionally fueled on unaccounted cash. A critical state election is imminent, and the BJP faces parliamentary elections in about two years. The currency move robs the opposition political parties of the cash that would fund their efforts. There are already some reports that members of the BJP in Kolkata were depositing unusually large amounts of cash right up until the Prime Minister’s announcement. The suggestion is that the BJP received a heads up about the currency cancellation, despite the otherwise strict secrecy that shrouded it. It doesn’t require much cynicism to see the advantage of depriving the opposition of their funding.

In addition, while the government is generally regarded as having done a good job dealing with high-level corruption, the government has also punished critics, weakened the critical Right to Information Act and attacked the independence of the judiciary. The Reserve Bank of India will also introduce a brand new 2000 rupee note, which undercuts the government’s argument against high-value currency notes. There are plenty of options for the government to support transparency and battle corruption without disrupting the lives of hundreds of millions of people.

However, there is widespread support across society for the currency ban. The emergence of e-commerce, from Amazon to Uber, has meant a new generation of the urban middle class is experienced with electronic banking and using credit and debt cards for services. There is widespread respect that Prime Minister Modi has taken a bold move against an acknowledged problem.

But more than anything, the widespread, almost patriotic support in the face of significant short-term inconvenience and even misery shows one thing: people in India will accept a great deal of discomfort if it promises to help reduce corruption in their daily lives. Whether the government can deliver on this bargain remains to be seen.

___

Russell Stamets is a Contributing Editor of the FCPA Blog. He was the first non-Indian general counsel of a publicly traded Indian company and was general counsel for a satellite broadcasting joint venture of a large Indian business house.

Reader Comments (2)

So far the news coverage of related to the impact of demonetization of Rs1000 and Rs500 currency notes in India has focused only inside India. Indian currency is freely available, albeit illegal, in countries like Nepal, Bhutan, Sri Lanka and some other countries. The people living outside India without access to formal banking system may risk losing their savings.
November 14, 2016 | Unregistered CommenterNarayan Manandhar
The gravity of the situation in Nepal can be verified by:
1. Estimation of Rs10-15 billion Indian Currency in Nepal;
2. On 14 November, PM of Nepal made a hotline call to the PM Modi requesting exchange facility in Nepal;
3. Agriculture export from Eastern Nepal to India, especially cardamom has come down to a standstill due to unavailability of currency in India. One can soon feet the impact on the flow of Indian tourists in Nepal.
4. Once India extends exchange facility in Nepal, there is possible danger of importation of black money from India and other countries due to open, free and unregulated Nepal-India border.
5. With million of Nepalese working in India and Nepal's near total economic dependency on India the impact of demonetization on Nepali economy and hence politics is going to be serious.
November 14, 2016 | Unregistered CommenterNarayan Manandhar
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