1. Is demonetisation cataclysmic or catalytic? May well bring people out of vicious cycle of poverty

Is demonetisation cataclysmic or catalytic? May well bring people out of vicious cycle of poverty

It will increase marginal propensity to save, thus bringing people out of the vicious cycle of poverty

Published: November 17, 2016 6:13 AM
notes-1 According to RBI annual report, larger value notes of R500 and R1,000 account for 85% of money in circulation translating roughly up to R14.18 lakh crore. (Source: PTI)

The latest move made by PM Narendra Modi has been hailed as a bold and a significant measure to curtail the parallel economy. The reasons to introduce such a step include attack on black money, counterfeit notes, bringing the accounts of tax evaders under scrutiny and incentivising people to adopt e-payment modes. Though some would criticise the secrecy of such a move, but the step has been taken in best possible manner without. It has taken hoarders of black money by shock, giving them absolutely no time to siphon it off.

According to RBI annual report, larger value notes of R500 and R1,000 account for 85% of money in circulation translating roughly up to R14.18 lakh crore. Now conjecturally, if only 60% of total estimated money to be recalled turns out in the bank, it will attract a heavy tax. This will, indeed, fill up the treasury as large number of money will come under the scrutiny. So, with R14.18 lakh crore, saying R8.5 lakh crore is taxed, a sum of R2.5 lakh crore will be collected as tax, which when distributed to a 32.7% BPL population of the country will amount to R60,000 per family. The added income to their respective accounts will have some direct and indirect outcome, contributing to economic prosperity. This step will result in multiple outcomes which include poverty alleviation, welfare, employment generation and building a robust mechanism for direct benefit transfer.

This will have massive economic and social impact on the lives of poor, as it will increase their marginal propensity to save, thus bringing them out of the vicious cycle of poverty. It therefore makes sense from an economic viewpoint, to allocate money to poor households as more consumption will lead to more production, more employment and higher incomes. This would result in reduction of income disparity and would pull some of the poor into middle income group. The reduction in income gap will aid in uniform salary distribution and increase GDP per capita since 32.7% BPL population will be able to participate. Another effect would be reduction in malnutrition & hunger and also help the poor households to send their children to schools which will help in improvement of Human Development Index.

An important thing to note is that the livelihood of poor depends directly on the provisions of local goods and services as compared to the rich. It is often witnessed that the poor often have to pay a poverty premium in form of harassment, bribes and denial of basic services pushing them deeper into poverty. Corruption is, therefore, attached very integrally to these basic services which results in policy gaps and misallocation of funds & services. In the above context, an important measure is to introduce Direct Benefit Transfer, which promises to transform the way services are delivered by allocating the subsidy directly into the hands of the residents, eliminating middlemen. The demonetisation of the currency will help in strengthening this mechanism and will allow India to leapfrog and construct a cutting-edge mechanism.

A very common argument levied against successive government has been that the service delivery system is poor; corruption is rampant and the system is faulty. The effort taken by the Modi government is indeed a transformational one, to fix these leaky pipes and the system. It is indeed an opportune time for such an idea to emerge, so that India can have its own transformation development story. This is a step towards a real political reform which will help the poor and is a boon to honest tax payers.
After all, there is no gain without pain!

Neel Ratan

The author is leader, government and public sector, PwC India.

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