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HomePageTurnerBook Excerpts2016 was not India's first demonetisation drive

2016 was not India’s first demonetisation drive

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Though not comparable in scale and magnitude to the problems faced in 2016, India’s first demonetisation caused considerable difficulties to people.

On 12 January 1946, ₹1,000, ₹5,000 and ₹10,000 notes were demonetised through the passage of the High Denomination Bank Notes (Demonetisation) Ordinance.

The rationale for the demonetisation by the pre-Independence government was ostensibly to force unscrupulous businessmen to declare their black money. During World War II, they had supposedly made huge fortunes supplying the Allied war effort and were suspected of concealing their profits from the tax department. A similar step was undertaken in the UK in 1945, where the Bank of England had called in notes of £10 and higher denominations.

Indian nationalist leaders, who were not consulted on the decision, disagreed with the move. Rajendra Prasad, who would become the first President of India, declared, ‘While we Congressmen have no sympathy with profiteers and dealers in the black market, it is not right to penalise honest people who, in good faith, have their savings in notes of demonetised value… A large number of people belonging to the middle and lower middle classes will be hit hard.’

Rajendra Prasad went on to lucidly point out how the problem had been created in the first place: ‘Many of the wartime ordinances succeeded in complicating the problems which they were intended to solve and in creating opportunities for corruption. The new ordinances are not going to fare any better.’

It was reported that absolute secrecy was maintained. Only eight officials knew about the demonetisation plan, including the RBI Governor and the Finance Member of the Viceroy’s Council (the equivalent of today’s finance minister), and these officers took notes and typed drafts themselves! No carbon copies were made or kept. The ordinance was flown in a special plane to Poona for the Viceroy’s signature and then flown back.

A time limit of 10 days, till 23 January (later extended to 9 February 1946), was fixed for the exchange of demonetised notes by ‘genuine holders’ at the Reserve Bank of India. Those exchanging notes could only do so on the basis of declarations explaining the source of earnings. The exchange was not permitted if the explanation of the source of income was not satisfactory.

There were quite a few complexities to deal with. It was believed that about 60 per cent of the currency was held in the Princely States and, therefore, the cooperation of the maharajas and princes was essential. It was finally agreed that while Indian princes would not be exempt, they would be allowed to use a special form approved by the crown representative in their state. There was also the issue of Indian currency which was held and used in the Persian Gulf that had to be dealt with.

As an aside, this is an interesting bit of history. The Indian rupee traditionally enjoyed wide currency in the Persian Gulf – Kuwait, Bahrain, Qatar, and the Trucial States (now the UAE). On presentation by banks in these areas to the Reserve Bank, these notes were redeemable in foreign currency equivalent. This clearly presented a major challenge during the 1946 demonetisation, as ‘black money’ from India could effectively be laundered through the Gulf route.

Post-Independence, the problem was compounded. Though India had started off with a comfortable foreign exchange position, this was rapidly depleted. To prevent malpractices that could exploit the traditional currency arrangements with the Gulf, a separate series of notes exclusively for circulation in the Gulf were issued in the 1950s. The notes had the same design but were different in colour and carried the prefix ‘Z’. The notes were issued in the denominations of one, ten and hundred rupees and were redeemable only at the RBI’s Bombay office of issue. As the Gulf States issued their own currency, these notes were withdrawn over a period of time from the early 1960s and ceased to be used around 1970.

It is interesting to note that the then Governor of the Reserve Bank, Sir Chintaman Dwarakanath Deshmukh, disagreed with the move to demonetise.

According to a note recorded by Sundaresan, the Joint Secretary, Ministry of Finance, who had drafted the scheme, ‘The Governor stated that the Finance Member had given him the impression that the scheme would be launched only when there were signs of the onset of an inflationary spiral. The Governor saw no special signs of such a situation. It appeared to him that the main object of the scheme was to get hold of the tax evader. The Governor wondered if this could be called an emergency to justify the promulgation of an Ordinance, just before the newly elected Legislative Assembly met. The Governor wanted government to be satisfied that there was no harassment to honest persons. As a currency authority, the Bank could not endorse any measure likely to undermine the confidence in the country’s currency.’

He also pointed out the considerable administrative difficulties involved in covering nearly 5,700 offices of scheduled and non-scheduled banks. The Governor’s concluding remarks, as recorded by Sundaresan, were as under: ‘Sir Chintaman Deshmukh felt that we may not get even as much as ₹10 crore as additional tax revenue from tax evasion and that the contemplated measure, if designed to achieve such a purpose, has no precedent or parallel anywhere. If value is going to be paid for value (no matter whether such value is in lower denomination notes), it is not going to obliterate black markets. His advice is that we should think very seriously, if for the object in view (as he deduces from the declaration form), whether this is an opportune time to proceed with the scheme.’

Finally, reflecting a dilemma that successive RBI Governors have faced in opposing a government directive, Sundaresan reported that Governor Deshmukh stated: ‘Provided government [is] satisfied on the points of (i) sparing harassment to the unoffending holders and (ii) a worthwhile minimum of results in the shape of extra tax  revenue, he does not wish to object to the scheme as drafted, if government wish[es] to proceed with it, notwithstanding the administrative difficulties involved.’

Though not comparable in scale and magnitude to the problems faced in 2016, the demonetisation of 1948 caused considerable difficulties to people. It also did not produce impressive results.

The Times of India archives report that in West Bengal, a pundit had to postpone the marriage of his daughter. The ₹1,000 notes he had scraped together for her marriage were no longer legal tender. In Nainital, a big businessman fell over and died from heart failure when he went to hand in his ₹1,000 notes.

At the time of demonetisation in 1946, currency notes of the value of ₹1,235.93 crore were in circulation, of which high-denomination notes (₹1,000, ₹5,000 and ₹10,000) totalled ₹143.97 crore. The Report of the Board of Directors of the Reserve Bank mentions that notes of the value of ₹134.9 crore were exchanged. Thus, notes worth only ₹9.07 crore, or 6.2 per cent, were ‘flushed out of the system’, not having been presented.

The Times of India archives reveal that in the first ten days, currency notes worth ₹47 crore were deposited across India. Bombay led with ₹27 crore, followed by Calcutta with ₹7 crore, Karachi with ₹3 crore, Lahore with ₹2.5 crore and Madras with ₹60 lakh. New Delhi, as a newly constructed government town, apparently did not register.

Summarizing the impact of the 1946 demonetisation, the Direct Taxes Enquiry Committee in its interim report observed, ‘Demonetisation was not successful then, because only a very small proportion of total notes in circulation were demonetised in 1946.’

In his criticism, Sir Chintaman, delivering the memorial address at the Dadabhai Naoroji Memorial Prize Fund Lecture in February 1957, said:

It was really not a revolutionary measure and even its purpose as a minatory and punitive gesture towards blackmarketing was not effectively served. There was no foolproof administrative method by which a particular note brought by an individual could be proved as the life-savings of the hard-working man who presented it or established as the sordid gains of a black-marketer. Another loophole of which considerable advantage was taken was the exemption of the Princely states from scrutiny or questioning when such notes were presented by them.

In 1954, new high denomination notes of ₹1,000, ₹5,000 and ₹10,000 were reintroduced.

Viewed in perspective, though the 1946 demonetisation failed in its objective of curbing black marketing and did pose several administrative challenges, it did not cause widespread distress to the general public. It is estimated that the high denomination notes of ₹1,000, ₹5,000 and ₹10,000 were only held by three per cent of the population, and as they were certainly not used for daily transactions, the impact of the 1946 note ban on the common man was limited.

This excerpt from the book ‘The Big Reverse: How Demonetization Knocked India Out’ by Meera H. Sanyal has been published with due permission from Harper Business.

 

 

 

 

 

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1 COMMENT

  1. Hi
    I have genuine old currency 7,83,000rupees how exchange where when?? People still have old currency. People waiting more than 2Years me to. Now my family begging condition please understand. I have genuine reason for my old currency 7,83,000rupees. I have all my family bank account details also. Still i not pay my daughter school fees 17/18-18/19.my. school management showting to me Bangalore bibs. I’m some time I think about suicide. Please. Don’t mistake me. My position like that.
    Please help please consider my request feeling better. Please one more time granted open new window soon for those still have old currency people. Now no crowd no black money no big line. First receive my old currency 7,83,000rupees after investigation back to me new currency sir. Who’s bringing old currency ask genuine reason. Before deposit people no enquiry no reason. Benefit only BANK manager and BANK staff. The demonisation failure only response BANK managers and BANK staffs. Demonisation fail only implement not good way. If ask to me I will explain
    Why failure demonisation.
    Please open new window soon for good name to bjp government
    Please
    A. T. Ghouse mohideen
    8095928540
    12345678atgm@gmail.com

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