On the 8^th of November 2016, along with the US, even India, one of the fastest economies in the world, was also going through a turning point in the history of its country. India’s recently elected prime minister demonetized a large proportion of its currency by ceasing the usage of all 500 and 100 rupee notes as legal tender and replacing with them with new currency notes. Also, limitations have been placed on cash transactions, and laws have been passed for large and unusual bank deposits to be under extensive tax scrutiny.

 

This major step is aimed at combating several serious issues that the country is facing, like black money, corruption, the inflow of fake currency from neighboring countries like to fund terrorism and even the problem of smuggling.

 

Through the implementation of this revolutionary policy, any drastic increases in income of people that do not seem consistent with their past earning patterns are much easier to question and examine under tax assessment, because all the cash will now be discernible by banks and the government. To escape these tax assessments and pay fines for tax evasion and having huge sums of money accounted for, many businesses have completely wiped out their cash. There have been numerous reports of people burning down or throwing away their black money because it now has no monetary value. An expected number of one trillion rupees are to be not exchanged.

 

Also, to strengthen this step taken towards tax evasion is the imposing of more than a 200% penalty for those making deposits of cash worth more than 250,000 rupees that cannot be accounted for.

 

However, in addition to the affects on taxation and corruption, this de monetization has also had an interesting macroeconomic effect. In India, there are major industries that entirely thrive on a parallel economy run by black money. Demonetization will bar these industries and businesses and that significantly lower India’s GDP for the last quarter of 2016. However, this would only be a short-term impact that would be a small price to pay for the increasing the GDP and the overall health of the economy of the country. Additionally, as banks will experience a major influx of deposits, interest rates are likely to fall, and lower lending rates might help boost the economy. Also, the value of the rupee might enhance in the foreign exchange market because of the major decrease in circulation of currency notes in the economy.

 

As of the business forefront of the situation, investing in the real estate, luxury and jewelry industries might not be prudent as of now. This is because housing finance companies will not be willing to give real estate companies loans to companies and individuals that might be currently facing a liquidity crisis. Also owning luxury goods, especially luxury cars or jewelry is often a representation of high earnings and extra wealth, and hence the luxury industry might be adversely impacted because people might refrain from displaying their income levels by involving in such forms of indulgence. Hence investments and stock markets will definitely see volatility.

 

Comprehensively, the Modi administration has made a very forward-looking, unique and distinctive step towards counterfeiting this parallel black money economy, corruption and the circulation of fake currency. As of now, the demonetization has been having a three-fold effect on interest rates, taxation and the stock market. Nevertheless, the increasing magnitude of these impacts, volatility and destabilization to be caused by it is yet to be seen.