By demonetising higher denomination notes such as Rs.500 and Rs.1,000, a lot of unaccounted money will be effectively destroyed.
BETTER CANCEL the tax, seems to be the chorus of many finance experts about the bank cash transaction tax (BCTT), proposed in the budget presented by the Union Finance Minister recently. The Minister has been responsive to suggestions for modifications or even alternative proposals, but has virtually ruled withdrawal of the proposal.
There are however sound grounds for scrapping the proposal, the most important being that the levy is most unlikely to achieve the stated goals of the Minister. These goals are, reportedly, flushing out `black' money and improving the cheque habit among the people; the latter presumably will also achieve the former objective over time. The implications are examined here along with a suggestion to meet the black money menace.
The tax is a very small levy of 0.1 per cent on every cash transaction — both withdrawal and deposit — in excess of Rs. 10,000 in a bank. Taking up the second objective, namely, to deter people from cash transactions and move over to the cheque habit, the presumption is that many persons keep money in banks and use it periodically for various transactions. This premise itself is of doubtful validity. According to the annual report of the Reserve Bank of India for 2003-04, the total amount of money circulation as at the end of March 2004 amounted to Rs. 3,19,761 crores in notes and Rs. 7,201 crores in coins. The same report mentions at another place that the total currency with the public was Rs. 3,15,493 crores. Perhaps the balance represents the currency held in banks. (The cash in hand with all scheduled commercial banks ranged between Rs. 7,890 crores and Rs. 8,931 crores during January 2004 and 2005).
To put it in perspective, for every rupee held by a bank — other than currency chests, the money in which is owned by the Reserve Bank — nearly Rs. 40 is in circulation or more appropriately held by the public. Further, the total money in circulation exceeds the aggregate demand deposits — savings and current accounts — with banks which was Rs. 2,56,039 crores as on March 31, 2004. Thus, many financial transactions should be totally by-passing the banking network. With the proposed levy, one could hazard a guess that even people who use banks for depositing their full earnings and withdrawing money for genuine payments may think twice before going through banks.
Two affected groups
The two groups of people who will be affected by the levy are basically the salaried and professional class who withdraw sums in excess of Rs. 10,000 for their monthly expenses and factory owners who draw heavy sums every month for payment of wages. The former group can easily sidestep the levy by drawing, in a day, Rs. 9,900 or even Rs. 9,999 !!. Factory owners, on the other hand, are obliged by law to pay wages in cash and have to draw lump-sum amounts in cash every month. For them, this will be an unnecessary irritant and an added tax, unless they can claim exemption for this amount from the income tax paid by them.
Cheque habit can and should be encouraged. For that to happen, establishments should be prepared to accept cheques in payment for services and goods. But then, even Government owned enterprises like the Railways and Indian Airlines do not accept cheques for tickets issued by them. In fact, they should have little hesitation, as in the event of non-payment of cheque, the relative ticket can be cancelled, provided they stipulate that cheques can be given only for travel after, say, a week or so. One constraint in accepting cheques was removed a few years ago when it was enacted that bouncing of cheques issued for valid consideration will attract criminal liability.
Black money menace
Generation and circulation of black money in the so called parallel economy has assumed alarming proportions in India. The proposed levy is unlikely to stem this rot, for such money will not normally go through banking channels. This money is generated in both lawful and unlawful activities. If a lawyer or a physician takes money from you for services rendered and does not account for it in his/her income tax return, it becomes black money. Similar will be the case when a trader does not give a bill for goods sold and fails to account for the receipt in his tax income. These are lawful activities that result in `unlawful' money. When a politician or government servant takes bribe from the citizens, black money is generated through unlawful activities. Far worse is the case where cash changes hands for pursuit of downright criminal purposes such as drug dealing, extortion or murder.
Putting an end to unlawful activities can only be achieved by a strict enforcement of laws of the land.
The cancer of black money has to be treated by surgical intervention by the Government as a one time measure. Total notes in circulation increased from Rs.1,02,302 crores in March 1995 to Rs.3,19,761 crores in March 2004, an increase of over 200 per cent in nine years, as per annual reports of the RBI. This growth is despite the mushrooming expansion in usage of credit cards in India. A large part of the increase in notes with the public should be accounted for by high denomination notes. And, it is a safe guess that black money is hoarded in high denomination notes.
Demonetisation can help
By demonetising higher denomination notes such as Rs. 500 and Rs. 1,000, a lot of unaccounted money will be effectively destroyed and the owners deprived of enjoying the wealth. While demonetising, it can be stipulated that no single person can exchange more than Rs. 2,000 or so in notes of Rs. 500 and Rs. 1,000 and that the balance with him/her will be exchanged at a discount of 60 per cent, that is, for every Rs. 1,000, the bearer will get only Rs. 400. In this manner, the Government can collect about 60 per cent of black money as tax. The total sum could even be to the tune of Rs. 60,000 crores or so.
Demonetisation or withdrawal from circulation has been reportedly advocated by many eminent economists including Lord Meghnad Desai to effectively flush out black money. The example of the U.S, which seems to provide inspiration to many an economist in India, is really interesting.
Till 1969 in the U.S., notes of denomination higher than $100 were in circulation; these included 500, 1,000, 5,000, 10,000 and even 1 lakh dollar notes!!. All these notes were withdrawn from circulation by President Richard Nixon in 1969 to "make life harder for the mafia." In India too, by withdrawing Rs. 500 and Rs. 1,000 notes, life will be made harder for corrupt `public servants'.
Additionally, newer generation of large amounts of black money will become extremely cumbersome to carry or store and there could be a dampening effect on such pernicious activities. As a bonus, people will be forced to use cheques for larger payments.
To conclude, the new levy on cash withdrawals over Rs. 10,000 in a day from a bank will not meet the twin objectives of curtailing, if not eliminating, black money and increasing the banking habit.
As an alternative, the Government should seriously examine a surgical intervention in the form of demonetisation of higher denomination notes as a one time exercise and follow it up with vigorous enforcement of existing laws that prohibit generation and use of unaccounted money.
(The author is a former Managing Director, SBI)
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