Demonetization: How could this have been done better?

While the scheme currently is pulling money back into the system, it is not without cost. A large amount of wealth is being redistributed in an effort to save whatever one can from the tax man in the process of ‘converting’ money. People are trying different ways to convert their cash. My cab driver the other got a series of calls from people offering up to 40% of the cash to be ‘converted’. The current scheme is impeding people who would have otherwise come forward and deposited their cash due to the fear of the ‘200% penalty’. There will also be another cost involved in the tax assessment that is to follow. When people declare their incomes, there is a chance where they could be harassed by the tax man and also have to pay bribes while having to pay a fine. While this makes for a good show of strength that the establishment is ‘tough’, there is a cost and inefficiency attached to such decisions. The government will collect a substantial amount by way of taxes at the end of it, but the associated cost and nuisance could have been reduced. The net realization for the government could be higher.

The scheme could target black money much more effectively if the government had put no restriction on deposits and only on withdrawals. By placing no restrictions on deposits, the effort would have been a mix of the voluntary disclosure scheme and the demonetization. The impact of this would be:

  • Less confusion and panic among the people
  • Higher compliance rates than the current method
  • Higher net tax realizations than the current method as the full amount is deposited and not filtered through various sources, and the cost of subsequent implementation of the tax collection is lower due to the reduced scope
  • It would also ensure a better understanding of the amount possessed by an individual and the flows of money

It is important to remember that the objective is to bring the money back into the system and not to harass people. Any tax which has a high rate and a component of subjectivity, disincentivizes people from complying. This gives scope to corruption and creation of black money again.


When it comes to implementation,

  • ATM deposit machines (those created with the main intention of enabling deposits while also allowing withdrawals) should be used at this point to encourage collection. Additional machines could be deployed to support the existing infrastructure.
  • For cash exchange, an electronic system which can read ID cards and link transactions to a centralized database could be considered. It is not possible to go through all this paper work while looking for something. There is a cost attached to the creation, storage, transport and destruction of all this paper work. By simply swiping the ID card and entering the amount, the transaction could be recorded. There are issues of multiple ID cards being used to bypass the system and loop holes around it. For those who use ADHAR, the problem of duplication doesn’t come in as all associated ID cards are attached. For the other cards, based on details such as address match and other criteria, rules can be created to curtail multiple transactions.

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