Posts Tagged ‘Arthakranti’

Demonetization – Phase 2 – from cash to cashless

The first month of demonetization has been a trying one: long queues, frayed nerves, some panic and the usual meaningless political drama. Now that the genie has been let out of the bottle, it makes more sense to work out the future steps than to flog the dead horse. I chanced on a news item where a Pune-based not-for-profit outfit, Arthakranti, has claimed credit for planting the idea in the Prime Minister’s brain. Unfortunately, they have also pointed out that, of their recommendations, the government of India implemented only one. Since not many would have gone through their suggestions, I am detailing them below, along with my views on the way ahead, as well as two critical issues that will need a push from the government if the cashless economy is to become a reality in the not so distant future.

Withdrawal of high denomination notes (₹ 1000, 500 and 100) from circulation was the one recommendation that has largely been implemented. Arthakranti had, however, proposed a phased withdrawal programme starting with the ₹ 1000 note, then the ₹ 500 note and finally the ₹ 100 note, spread over three six-month periods, with an adequate supply of newly printed notes of the next lower denomination to substitute for the withdrawn currency note. Finally, the highest denomination note in circulation was to be the ₹ 50 note. Without trying to guess the compulsions of the government in rushing through such a monumental process in fifty days without ensuring adequate supply of currency of legal denominations, there is no denying that much pain has been caused to the general public, apart from the man-days lost in queues and the depression in economic activity just when the kharif crop has been harvested and the rabi sowing is due. Having done what it did, the government should now move towards a gradual phase out of the ₹ 2000 and ₹ 500 notes, probably over the next 12 to 18 months, with adequate provision of ₹ 100 notes to avoid the situation we went through in November. I would advocate continuing with the ₹ 100 note for at least another three to five years till cashless payment systems are firmly established as the preferred transactional mode.

A cap on legal cash transactions of ₹ 2000 has tentatively been proposed by Arthakranti. Given the large number of unbanked Indians and the gestation period that will be needed for cashless payment systems to be put in place, I would be more comfortable with a cap set at ₹ 10000 for the period when the ₹ 100 note continues to be legal tender, with the cap being reduced to ₹ 5000 once ₹ 50 is the highest currency note in circulation. Any transaction in cash above this cap should be made illegal and liable for punitive action.

The truly revolutionary recommendation of Arthakranti is the replacement of all domestic direct and indirect taxes (central, state and local) by a banking transaction tax (BTT), with only import and export duties continuing in respect of internationally traded goods and services. This is tantamount to killing many birds with one stone. Coupled with the cap on legal cash transactions, this brings every transacting citizen into the tax net. Any transaction through a bank account (with automatically attached Aadhar and PAN card details) attracts a BTT of 2 percent, as suggested by Arthakranti. The BTT is added to the transaction value and deducted from the amount realised by the payee. The BTT realised is shared between central, state and local governments and the banking intermediary. With the tax net covering all transactions over ₹ 10000 (ultimately ₹ 5000), the system can be revenue-neutral even at a rate which is barely 7% of the currently highest marginal income tax rate or 10% of the anticipated GST rate. The ordinary citizen will be spared the ordeal of filing direct and indirect tax returns, an exercise that today taxes even the most nimble-minded chartered accountant. Governments at all three levels can save money on the huge army of tax inspectors, assessors and enforcers in departments ranging from income tax and central excise to state excise, land revenue, stamp duty, registration fees, commercial taxes, road tax, entry tax and property tax. User charges paid online will not only accrue immediately to the concerned department/agency but revenue receipts to the concerned governments and banks will also be instantaneous. The BTT would also cover agriculturists, who are out of the income tax net for political reasons, despite the recommendations of the K. N. Raj Committee over four decades ago. Most importantly, black money generation through corruption and tax evasion, and its conversion from cash to other asset forms like real estate and jewelry, can be checked.

Reaching out to the huge unbanked portion of the Indian economy requires, as a prerequisite, a digital revolution: the cashless economy can be built only on the foundations of a digital economy. Efforts to promote cashless payments and cash transfers in MGNREGA and the PDS have foundered on the absence of virtual connectivity in large swathes of the country. With banking services not covering even the last ten miles, let alone the last mile, banking correspondents, armed with point-of-sale machines, and mobile wallets are probably the major means by which money can be accessed. This, however, requires microwave towers, with reliable electric supply. Where the terrain does not suit microwave tower connectivity and where electric supply is yet to reach (which are the areas where the most disadvantaged sections of Indian society live), there is need to rely on satellite connectivity coupled with towers powered by solar energy. A second concern is that of cyber security. With increasing criminal infiltration of cyberspace, development of secure, encrypted systems is the need of the hour to avoid economy-wide disruption of financial systems.

Demonetization was initially promoted as the solution to check tax evasion and corruption and deal with counterfeiters and terrorists. With growing public irritation and the downturn in business, the government has started trumpeting the virtues of a cashless economy. This requires a paradigm shift in technology and in individual mindsets. But above all, it requires certain crucial reforms in other sectors of our democracy and polity. I will deal with these in a future blog.