Last week, India’s Prime Minister Narendra Modi banned from circulation the country’s two largest denomination banknotes, of 500 rupees ($7.50) and 1000 rupees ($15). The shocking move—kept secret and set to take place overnight—was intended to flush out the cash hoardings of black market participants and stop the corruption currently permeating all levels of business and government in India. The two banknotes, rumoured to account for almost 80% of the cash in circulation, were used primarily to avoid paying taxes and to pay bribes.
However, the rupee ban has managed only to create chaos and desperation for millions of Indian citizens. They were left with no money to buy basic amenities, and saw their dearly earned savings being wiped out overnight.
They queued in front of the banks and rushed to their ATMs, scrambling to exchange the worthless banknotes in the brief window of opportunity provided. Both banks and ATMs ran out of money, as India’s printing presses rushed to keep up by printing new lower-denomination currency.
But many Indians are so sick of corruption that they are willing, albeit grudgingly, to bear these hardships if the move should end it. They don’t know that it won’t: the move did little more than temporarily inconvenience the large money launderers and tax evaders, who have already found loopholes allowing them to profit from and minimize the effects of the government’s move—and that is a good thing.
Some have, however, realized that “the actual black money… is stashed away in Swiss bank accounts” and that it is regular people and businessmen who are the most affected. They have been and will be left with the large portion of the worthless bills once banks stop redeeming them. And as the money supply deflates, it further produces a reversed Cantillon effects phenomenon: a transfer of wealth from those still waiting in queues to those who have already exchanged their notes, as the diminishing cash stock pushes up the purchasing power of the rupee.
This high purchasing power, however, will also be short lived: new currency is being printed, and India’s central bank is already planning to further re-inflate the money supply with open market operations. All this is triggering the ‘classic’ Cantillon effects, again transferring wealth to banks, those in power, and the already wealthy—who receive the new money first—from the nation’s poor, who will be waiting for it to ‘trickle down’.
Unsurprisingly, the hardest hit are the always the poor. Sadly, they are also the ones who will likely head to vote in the next elections believing that the system will ‘now’ change and will ‘now’ work in their favor to reduce the government corruption they so despise. Often, the most difficult lesson to learn is that the best and only way to get rid of such evils is to get rid of the system.
Carmen Dorobăț has a PhD in economics from the University of Angers, and is assistant professor in International Business at Coventry University. Contact: email.
Courtosy of Mises.org