The Law and Legality of the Historic Demonetisation of Rs. 500 and Rs. 1000 notes in India

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new entrants in the market

Prime Minister Modi has taken a billion Indians by surprise after the recent demonetization of Rs. 500 and Rs. 1000 currency notes. As of midnight 8th November 2016, these notes have ceased to serve as legal tender in India. Why?  According to the Indian Premier, this stern measure is intended as a fatal blow to the parasitic parallel economy in India. Additionally, it aims to cut the supply lines to the funding of terrorist activities, which primarily involve the use of high denomination currency bills. While the Indian public is taking their time to digest this bitter medicine, let’s take a moment to analyze the legal status of this historic decision and to trace the history of demonetization in India.

Legally Speaking

Investopedia defines ‘demonetization’ as “the act of stripping a currency unit of its status as legal tender”.  According to the Wire, it costs Rs. 3 to print a Rs. 1000 note. This essentially means that a Rs. 1000 currency note will literally be worth the value of the paper it’s printed. As per RBI stats, Rs. 1,000 notes formed 39% of the stock of currency in circulation at the end of financial year 2014-15 and Rs. 500 notes formed 45% of it. The current demonetization has wiped out at least 80% of the currency in circulation in terms of value.

On 8th November 2016, the Finance Ministry passed a notification in the Gazette of India demonetizing Rs. 500 and Rs. 1000 notes on the recommendations of the Central Board of Directors of the Reserve Bank of India (the Notification). The Notification notes that “it has been found that high denomination bank notes are used for storage of unaccounted wealth as has been evident from the large cash recoveries made by law enforcement agencies. It has also been found that fake currency is being used for financing subversive activities such as drug trafficking and terrorism…”. This was followed by a press release by the RBI. Among other things, the press release notes that “starting from November 10, 2016, members of public/corporates, business firms, societies, trusts, etc., holding these notes can tender them at any office of the Reserve Bank or any bank branch and obtain value thereof by credit into their respective bank accounts.”

History and histrionics of demonetization in India

This is not the first time an Indian government has demonetized currency notes. In 1978 the Janata Dal government, led by Morarji Desai, had resolved to demonetize currency notes of Rs. 1000, Rs. 5000 and Rs. 10,000 with similar intentions. This move was preceded by the enactment of The High Denomination Bank Notes (Demonetisation) Act, 1978 (1978 Act), which noted that “the availability of high denomination bank notes facilitates the illicit transfer of money for financing transactions which are harmful to the national economy or which are for illegal purposes and it is therefore necessary in the public interest to demonetise high denomination bank notes”. However this decision did not have the intended impact because at the time most people, presumably even those who possessed black money, did not possess such high value currency notes.  According to a piece in The Telegraph, a private sector employee recounted his father’s reaction to this measure. A government employee, his father said, “I have never seen a Rs 1,000 note. I am not bothered”.

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Yes we did have Rs. 10,000 notes

Rs. 1000 notes were resurrected soon thereafter in 1998 by the NDA government under the High Denomination Bank Notes (Demonetisation) Amendment Act, 1998 (Amendment Act).  While proposing the introduction of Rs. 500 notes and the return Rs. 1000 notes, the Finance Minister reasoned in the parliamentary debates that “It is a well known fact that the purchasing power of the rupee has gone down considerably since 1978… In terms of movement in Consumer Price Index (base 1982 = 100), the value of Rs.1000 would now be only Rs.160 — which entails that an average consumer requires notes of a higher face value for his normal cash transaction.” MP Mr. P.C. Chacko warned that the government’s decision to print more notes would weaken an already weak Indian currency.  Nevertheless, the Amendment Bill was passed and we were introduced to Rs. 500 notes for the first time in 1998.

Challenge Extended

Unsurprisingly, the recent decision has been challenged before the Supreme Court of India by none other than two practicing lawyers. According to the Times of India, the petition notes that “[this] announcement has come to thwart away the black money, fake currency notes and terrorism; but at the same time, this economic crisis created at the cost of lives of 125 billion of citizens of India, cannot be termed less than ‘economic terrorism’ in the lives of aam admi”. Wow, strong words.  Unless the TOI has reported this quote incorrectly, it is quite apparent that the petitioner-lawyer’s  logic is as weak as  his grasp of English. It would indeed be fun to see this petitioner explain the sudden burst in the Indian population and the justification for  providing a notice before taking a decision to which the element of surprise is fundamental. The Supreme Court is set to hear this order on Tuesday, 15th November 2016.

Hindustan Times has reported that two senior counsel, Mr. Jamshed Mistry and Mr. Jabbar Singh, have followed suit and challenged the constitutional validity of the Notification before the Bombay High Court. According to the report, Justice M S Karnik, presiding over a vacation bench, has directed the petitioners to argue this matter before a regular bench as similar questions arise from the two petitions. Mr. Mistry argues that the decision has to be preceded by an Ordinance followed by an   Act of Parliament to satisfy the constitutional mandate. Otherwise, a simple notification in the gazette would be unlawful because “merely giving four hours notice is no notice at all and one’s right to life and right to occupation/conduct business were severely affected”.

If anyone thinks that Modi did not see this coming; it’d be a huge mistake. While contemplating this move, the Government would definitely have preempted all kinds of challenges, political and legal, which will have headed its way. Then why take the risk of issuing just a Notification? Well, the true imapct of this move lies in the surprise/shock factor; and an act of parliament (with all the public discussion and debate) will never provide it. So even if the Notification is invalid or unconstitutional, by the time any challenge actually suceeds the damage (benefit) will have been long done. And the Government can smoothly follow with an Ordinance, which it may have already prepared for. Smart move, eh?

Will the Prime Minister’s decision truly cause sleepless nights to hoarders and holders of black money? Will it instead cause greater inconvenience to the ‘aam admi’? Will the Notification stand the test of constitutional validity before the Supreme Court and the Bombay High Court?

Only time will tell.

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