Black money may rule new currency era too

A Transparency International report ranks India at a dismal 76 out of 180 countries it grades on corruption.

In a move to curb the black money menace, the Narendra Modi regime’s stunning initiative to demonetise high denomination (HD) notes of Rs 500 and Rs 1,000 is well-meant and widely embraced.

The tax netted in this exercise will be the first major fiscal gain for the exchequer, sans IT raids and harassment, securing a large database of tax evaders as well.

A common point in many debates portrayed Swiss banks as villain for guarding stashed funds. Isn’t it a misleading rhetoric because it wilfully missed a huge component of the domestic black money, closer home, easier to retrieve with no global or Swiss bank rules acting as a barrier to its end?

Had the government timed the “scrap” along with Voluntary Declaration Scheme, it would, probably, have fetched more disclosures. India’s black economy is currently estimated at 75% of the GDP, as sourced by National Institute of Public Finance and Policy (NIPFP).

India has pulled select deno-minations twice before, in 1946 and 1978. Countries such as Germany, Mexico, Argentina, Turk-ey and Israel have done it in the past. The US officially closed the gold window in early-1970s thereby ending the decades-long gold exchange standard.

The HD notes account for ne-arly 86% of the money in circulation. Adopting another currency or introducing a new denomination may not suffice unless the macroeconomic fundamentals such as growth, inflation, unemployment, supply and demand are adequately addressed.

What is hidden as HD notes is much less than black money as untaxed income, part of which might be splurged in conspicuous consumption or used for investment in real estate, commodities or plain graft to secure political gains. While the staggering tax evasion undercuts the financing of public services and contorts decision making, terror-finance sustains organisations that spread death and fear. Though the move atte-mpts to choke arms smuggling, espionage and terrorist activities, the moment cash is swap-ped, the same “black” behaviour may re-emerge with the new currency also, because the underlying incentives are still there. 

Global financial crime flows are estimated at $2 trillion a year, corruption adding another $1 trillion. Despite huge investments on transaction surveillance systems, hardly 1% of illegal financial flow is seized.

The HD notes are the preferred payment mechanism and store of value adopted by tax evaders, given the anonymity and lack of transaction record, and the ease with which they can be moved. Though there is a clarion call for “cashless” economy, in all countries cash is still the predominant method of making small payments.

For larger payments, e-payment mechanisms such as bank transfers while debit/credit cards offer mutual ease to both the parties. The HD notes already play a limited role in any legitimate economy whereas in the parallel economy, the reverse is true.

Eliminating HD would not stop tax evasion or related crime, but it would increase costs and risk for the malefactors. The impact depends on precisely how the HD notes are eliminated.  Collective action by all the countries issuing HD would impact more than unilateral action. If only one country stops issuing HD notes, criminals can switch to using HD notes in another widely accepted currency. 

We face acute threat from well-financed international terrorism, most notably the Islamic State. Banning HD notes will not stop terror-funding, but without purging of HD notes, it will be tough to get grip on stemming such flows.

Illegal goals

Currencies, like the US dollar, are accepted virtually worldwide. For those wanting to pursue illegal goals, HD notes offer all the benefits of cash, with minimum physical downside.  Consider what it would take to transport $1 m in cash.

In $20 bills, it weighs about 50 kg requiring four normal brief cases, whereas, in $100 bill, the same amount weighs roughly 10kg and takes one brief case. In Euro 500 notes, $1 m equivalent weighs about 2.25 kg and would fit a small bag.  No wonder, in the underworld, the Euro 500 note is known as “Bin Laden”.

While Europol report notifies that “Euro 500 trades at a premium to facilitate money laundering”, financial and crime experts opine that drug-traffickers prefer Euros to Dollars, given the availability of HD notes. According to UN Office for Drugs and Crime, “Euro 500 has become an important second currency for drug traffickers”.

The tricksters have an obvious incentive not to provide data. Moreover, the data that does not exist typically only focuses on cash versus non-cash payment medium. Although not all use of cash is criminal, all criminals use cash at some stage in the money laundering process.

And back home, Rs 2,000 notes are introduced with twice the ease of velocity, in addition to Rs 1,000 notes soon to appear in a new avatar. A Transparency International (TI) report ranks India at a dismal 76 out of 180 countries it grades in terms of corruption.

Can this demonetisation improve our ranking and lead to increased financial inclusion? Will tax burden be shared by all, not just salaried and genuine taxpayer like before? While tax evaders are likely to come under “scanner” when they capitulate volumes of cash, the question is whether they will reform themselves or revert to earlier ways. 

(The writer is a retired banker)