Old high-denomination currency notes. (GettyImages)
Snapshot
  • Half the hardships to the people could have been avoided by implementing a two-stage demonetisation, and with a better understanding of cash handling logistics post 8 November.

    But not all the problems could have been foreseen.

With just over a week to go before we bring the curtains down on note-badli – the exchange of demonetised Rs 500 and Rs 1,000 notes for new ones – we now have enough facts from which we can deduce how the Narendra Modi government nearly ended up with a fiasco. One uses the word “nearly” because it is apparent that at least some of the pain could have been avoided with more careful planning and phasing of demonetisation. One also assumes that 20-30 experts couldn’t have been assembled to sort out all issues in advance for reasons of maintaining secrecy. But it also seems likely that some pain was unavoidable, no matter how well one planned.

The four starting facts we have to work on are the following: the number of Rs 500 and Rs 1,000 notes with the public as given out by the Finance Ministry in parliament (Rs 15.44 lakh crore as on 8 November); the Reserve Bank of India’s (RBI) reply to an RTI query, where it stated that it already had Rs 4.94 lakh crore of the new Rs 2,000 currency notes printed and ready on 8 November; the central bank also said that Rs 20.51 lakh crore was the value in these notes, Rs 11.38 lakh crore in Rs 500 notes and the balance Rs 9.13 lakh crore in Rs 1,000.

Lastly, we have the production capacities of the four note printing presses owned by the RBI and the government. These presses have a normal printing capacity of 2,400 crore pieces annually (24 billion pieces), stretchable to 3,600 crore pieces if worked 24x7. One can say that these presses, even assuming some inability to print to full 24x7 limit, should be able to push out some 200-300 crore pieces (ie, three billion) a month.

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Assuming the numbers put out by the Finance Ministry and the RBI on 8 November are correct, one can deduce that about Rs 5 lakh crore of demonetised notes were already in the banking system, leaving only a potential Rs 15.44 lakh crore to be replaced. This implies that nearly a third of the money junked was already available for replacement, albeit in higher denomination Rs 2,000 notes. The problem was the deployment of this printed currency.

What we do not know – and which is essential to deciding whether there was poor planning or not – are the following.

One, the lead time the RBI got between the period the government informed it or consulted it on demonetisation, and the actual date of the announcement.

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Two, the information gap on how long it would take to recalibrate the ATM machines, which were not capable of handling the new smaller-sized notes.

Three, the banking system’s capacity to handle large volumes of cash in the initial days of demonetisation.

Four, a poor understanding of where the cash shortages would surface first. The geographical spread appears to have been worst in Delhi and the northern states, and much less in the south.

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We do not as yet have answers to these questions, but it is possible to arrive at tentative (and possibly speculative) conclusions on why the problems surfaced, and how much of it could have been avoided.

It is unlikely that the RBI did not know that ATMs would need to be recalibrated. It is thus likely that it was told very late about the decision, giving it little time for responding to the initial cash rush. Clearly, the government needed to have taken at least one of two RBI officials into confidence to figure out the problems and how they could have been handled.

The first conclusion thus is that the RBI was clueless on the government’s intent where it could contribute usefully to handling the fallout of the note shortage.

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Once the ATM recalibration challenge was evident, bank counters became the primary channels to start distributing the new Rs 2,000 note – and they were simply too slow with it. They had to handle too much in too little time. They needed to create queues for the exchange of old notes, for accepting large volumes of deposits and also handle withdrawals upto the prescribed limit (Rs 24,000 per week).

The second conclusion is that the physical handling capacity of banks to deal with so much cash in so little time was simply grossly underestimated. Simple math at the top levels of the central bank could have given out better estimates of the time required, and also flagged the ATMs issue.

A week ago, RBI Deputy Governor R Gandhi disclosed that the central bank had issued Rs 4.61 lakh crore to the public through bank counters and ATMs, and of this number 170 crore (1.7 billion) pieces were largely in Rs 2,000 notes (and some Rs 500s), and 2,010 crore (20.1 billion) pieces in smaller denominations (Rs 10, Rs 20, Rs 50 and Rs 100).

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This means the bulk of the printing capacity was devoted to smaller denomination notes, and not Rs 500s which were sorely needed. If 2,010 crore notes of smaller denominations were given out in the one month post-demonetisation, and the maximum printing capacity is around 300 crore pieces per month, the bulk of the first month may have been used to print smaller notes, with very little Rs 500s being printed.

So, conclusion three: This is where the major problem seems to have occurred. Working backwards from what we witnessed in the first two weeks of demonetisations, when the ATMs were being recalibrated, Rs 100 notes vanished quickly as these were the only notes the machines could then handle. This may have forced the central bank to shift printing to smaller denomination notes, including Rs 100s, but without the middle denomination – Rs 500 – being available, these smaller denominations were being disbursed very slowly through bank counters.

So, by the second week of demonetisation, everyone saw the long queues outside bank counters and ATMs without cash and concluded that they had to hoard as much cash as they could lay their hands on.

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The irony is this: the ATM problem made it impossible to disburse the cash actually printed (Rs 2,000) and the slow rate of disbursals through bank counters ensured that very little cash was actually going to the public, accentuating the shortage psychology. Indians know that once something is in short supply, they must hoard for difficult times.

The question is: could things have been handled better?

Some tentative solutions, made entirely possible by hindsight, seem plausible.

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First, assuming there was going to be an ATM problem, the demonetisation could have been implemented in two phases with only Rs 1,000 notes being de-legalised in round one. This would have enabled the banks to disburse new Rs 2,000 notes in adequate quantity, while ATMs were being recalibrated. We are assuming that the decision to reduce the sizes of the new notes was deliberate and necessary to prevent quick counterfeiting.

This would have sent those holding black money to deposit Rs 1,000 notes and shift their holdings to a mix of Rs 500 and Rs 100 notes. But this would have set the stage for the next phase, say, by early December, when Rs 500 notes could have been demonetised, and the ATMs would have been ready to disburse Rs 2,000 in plenty, and the new Rs 500s and Rs 100s in reasonable quantities. More black money holders would have been caught red-handed with the notes they recently converted to old Rs 500 notes.

The ATM recalibration gap also ensured a lot more hanky panky at the banks’ end, since bankers were the prime conduits for the distribution of the new Rs 2,000 notes. The over-dependence on bankers ensured adequate space for corruption. This is one reason why we saw scores of bankers being suspended and their beneficiaries arrested for grabbing the new notes while the public was left standing in the sun in serpentine queues in some cities.

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Second, attempts to market digital cash and e-banking could have been rehearsed well in advance without letting go of secrecy.

The conclusion is simple: half the hardships to the people could have been avoided by doing a two-stage demonetisation, and with a better understanding of cash handling logistics post 8 November. But not all the problems could have been foreseen.

Hence the verdict: half-fiasco.

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