Not Even 0.1% Of Black Cash Got Nullified In Demonetisation, Says Economist Arun Kumar

Veteran crusader against black money, Prof Arun Kumar says in his new book "Demonetisation and the Black Economy" that DeMo had zero effect on the parallel economy
Not Even 0.1% Of Black Cash Got Nullified In Demonetisation, Says Economist Arun Kumar
Not Even 0.1% Of Black Cash Got Nullified In Demonetisation, Says Economist Arun Kumar
outlookindia.com
2017-11-08T15:22:06+0530

The impact demonetization had on the black economy needs to be understood. For this, one needs to understand the difference between a flow and a stock.

This is standard macroeconomics and is taught in the very initial lecture in an economics course. The water in the overhead tank in my house has a stock of water which flows down into my taps. I may have a lot of water in the tank, but I use a small amount of it so that the flow is small. It may also be the case that my stock of water is little but it is flowing in fast and going out to the taps fast so that the flow is high even though my stock of water is low. So, from the stock, I cannot tell what the flow is, and vice versa. In the economy too, this holds true.

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I work to earn an income, and that is the flow. Out of the income, I consume a portion and save the rest. What I save I invest to earn a return. Annually, what I save and invest adds to my stock of wealth. The wealth grows. The wealth is in the form of various assets, so it is called a portfolio of assets. It could consist of real estate, gold and jewellery, shares, fixed deposits and so on. I also keep a little bit of cash for precautionary purposes (as discussed above). As discussed earlier, such cash amounted to 3.5 per cent of the annual income. As my savings accumulate, my wealth becomes a multiple of my annual income so that my cash holding will amount to less than 1 per cent of my wealth.

If similar numbers apply to the black economy, cash as a proportion of the black wealth may be only 1 per cent or less, and will amount to about 3.5 per cent of the black income generated annually.

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Thus, if the entire stock of black cash had been neutralized because it did not come back into the banks, still only 1 per cent of the black wealth would have been destroyed. But, as argued earlier, by 13 January 2017, 98.8 per cent of the denotified currency had come back into the banks; only Rs 18,000 crore had not, and most of that too would have come back by now. So, not even 0.1 per cent of the black cash got nullified, or less than 0.01 per cent of the black wealth.

While the black wealth was hardly impacted, black income generation was not impacted at all. If a doctor was getting a cut from laboratories for recommending tests, that continued. If a businessman was under-invoicing sales, that continued. The mechanisms of generating black income did not get impacted. Further, if there was a decline in output due to cash shortage, it impacted both the black and the white economies.

Most of the black incomes are generated in the organized sectors and not in the unorganized sectors, so the black economy was relatively less affected than the white economy. Further, black economy can be transacted using non-cash means. So, it was again less impacted than the white economy. In brief, the ratio of black to white is likely to have risen. Since this is how the black economy is expressed, one can say that it increased even though in absolute amount it contracted for a temporary period.

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Activity in the black economy was temporarily disrupted just as the white economy was disrupted, but the processes did not get disrupted. It is the process of black income generation that needs to be dislocated to stop it. Demonetization does not do that. Further, cash continued to be available to carry on black income generation. Even if cash was not available, payments could be made in alternative forms, via gold coins, dollars and undervalued assets.

It has been argued that real estate prices fell after demonetization and that amounted to a decline in black wealth. Gold prices initially rose and then fell. That would have also lowered the value of gold and jewellery holdings. Does this fall in prices mean that demonetization impacted black wealth? If that is so, the impact of demonetization on black wealth cannot be captured by the amount of currency that did not return to the banks. Reports suggested that sale of real estate, especially high-end real estate, declined sharply as a result of the uncertainty in the market. There were few buyers and sellers in the market for such properties.

The decline in asset prices does not amount to an impact on the black economy, because black income generation continues. A fall or a rise in price of assets only leads to paper gains and losses. This happens in the white economy too. Trends can reverse, leading to a revaluation of the assets over time. It is the real assets that count as wealth.

(Excerpted from the forthcoming book Demonetization and The Black Economy by Arun Kumar published by Penguin Random House)

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