4 years on, was demonetization a scam as it is still believed to be?

India’s economy has been on a downward slide from the time the knife of demonetization was struck deep into it’s heart in 2016. Everything that could go wrong has gone wrong from that time. 4 years on, majority of the people were struggling to get back on their feet when COVID-19 decided to make an uninvited visit. In Kerala, the Indian state where I come from, there is a saying about a man struck by lightning getting bitten by a snake. It is exactly such a double whammy that India has been subjected to. I still see people on social media cursing PM Modi for the demonetization fiasco and calling it the biggest ever scam in India.

Even I believed so for more than a couple of years till I started connecting the dots. I am admittedly not much of a finance guy because I believe businesses are run more by human needs and emotions than by numbers. But the aftermath and fallout of demonetization forced me to look under the hood. First of all, back in 2016 when I was in Bangalore, I had befriended a birder at a park. He was a retired bank officer with good knowledge about birds. One day, during a casual conversation he said government should demonetize its high value currencies. I was taken aback. I wasn’t able to wrap my brain around what he said at that time. I remembered this when demonetization happened but because of government’s constantly changing narratives about it I wasn’t able to do my own analysis clearly.

In order to understand demonetization it is necessary to understand the situation of the country’s banking system at that time. NPAs on every type of loans were mounting and banks had no option but to liquidate assets of borrowers to recover at least the principal amount of loans. The fallout of the financial meltdown of 2008 was simply not going away. Banks got pushed to the corner with the NPAs of corporate loans. When Kingfisher reported losses and Vijay Mallya told the banking consortium that things were spiraling out of his hands, they decided to top up on the existing loans expecting the airline to make a belated turnaround from its beleaguered situation. What the banks got in return was Kingfisher’s assets – office buildings, airplanes, etc. Banks are not in the business of selling buildings and airplanes. This is just one example. Essentially banks got stuck with a pile of assets they couldn’t liquidate.

But banks were already under the pump for a bigger reason. India’s economy is firmly divided into organized and unorganized sectors. The greatest challenge of successive Indian governments has been to rein in and control the unorganized sector and convert as much of it as possible into organized sector because of an important reason. I take money from my bank account, buy from a local grocery vendor and that money flows into the local market where it goes into circulation most probably without ever going back into the banking system. I have even heard of professionally employed people who refuse any large deposits into their bank accounts. People were using innumerable & innovative methods to evade taxes they are entitled to pay without realizing that they were inadvertently gnawing away at the banking system.

Trampled from two sides and cash strapped, banks needed an urgent ventilator. The problem was too big for the Reserve Bank of India (RBI) to solve. Government had to step in and the only way to let off the steam albeit temporarily was to pull back all the high currency notes from the unorganized sector. Demonetization was probably seen as the only solution. The bank officer had told me about demonetizing high value currency notes in 2015 when he was already retired. This means demonetization was being discussed for the past several years from the time of the previous UPA government.

The biggest giveaway about demonetization was the government’s changing narratives about it’s purpose. It initially said demonetization will stop black money hoarding and neutralize counterfeit money rackets. But then 97% of notes recovered by banks were found to be legitimate. Then they changed their narrative to terror funding. In this case it was not enough to demonetize only high value currencies. In both cases it made no sense to demonetize existing high value currencies and then introduce a currency of even higher value. To tackle terror funding, all currencies had to be demonetized in a phased manner and new currency notes introduced to replace the old ones. Then the government said it was for digitizing the economy. In a country dominated by the unorganized sector and 90% transactions done through cash, a fully digital India is a remotely distant dream.

Demonetization in itself was not a scam but the way it was executed created many scams. Banks knew about it in advance as did everyone with power and influence. They all legalized their black money well in advance. After demonetization was implemented, bank managers were openly helping people make their unaccounted money legal for a fee and made a windfall out of it. None of the currency notes were demonetized from the time of India’s independence after which they were introduced so it is scarcely believable that 97% of the currency deposited in the banks were clean.

With the government’s close proximity to some corporate groups, I assumed for a long time that demonetization was a direct offensive against the unorganized sector to diminish it’s control over the country’s economy. They may have had thought that this would be an outcome of demonetization. But demonetization was not an outright scam as many assume it was even now. Banks had to be rescued in one way or the other or the economy could have collapsed. The execution of demonetization was what turned out to be a complete disaster, why I call it DEMONetization & DeMo, the Mo an indicator to Modi.

Was demonetization necessary? Was demonetization the only way to rescue banks? Did the government have to put the entire population of the country in duress for months to demonetize two high value currencies? New notes for lower value currencies were introduced and for those currencies, new and old notes coexist now. The government has since then introduced a new currency note of slightly higher value and reintroduced one of the demonetized high value currency note with a new design. The present currency system makes no sense to me. The colours and patterns of the newly introduced currency notes are confusing as well. Other than hurling a wrecking ball on an already limping economy, the government seems to have achieved nothing from demonetization.

Educational loan defaults – How the Government of India is trying to help lenders and borrowers

The financial meltdown of 2008 had left every inch of the global market in tatters. The assumption was that like previous recession periods, markets would swing upward again after a few years. But this time, it never materialized. The world of technology underwent a complete makeover from 2011. New technologies like the Cloud, Analytics, Artificial Intelligence, Automation, IoT and a booming startup environment destroyed every existing business models. This had a cascading effect on every industry and affected the job market drastically.

One of the biggest impacts of all of this fell on the education industry, particularly on the ones who were and are aspiring for higher education. Incidents of borrowers turning defaulters and educational loans becoming Non-Performing Assets (NPAs) have risen exponentially. Weak market conditions have become the bane of job seekers after completing higher education. Once they step out of the job market, it has become impossible to step back in, forget getting better job opportunities even after more education and improving their skills themselves. This has also resulted in a considerable drop in educational loans being provided to future candidates. Financial institutions have traditionally faced recovery of educational loans for a long time and specifically from willful defaulters. In India, this is why recovery of educational loans was brought under the umbrella of Security Act in 2002. The objective of this was to help financial institutions recover loans from willful defaulters easily. As per definition, willful defaulters are those borrowers who either have the means to pay back loans but do not pay willfully or have taken loans citing one purpose and have diverted the amount for some other purpose, lost the money and are not repaying. But this has become draconian now that banks are using the Security Act to recover loans from every defaulters, even if they have defaulted because of macroeconomic conditions and reasons beyond their control.

Fortunately the erstwhile Government of India and the Reserve Bank of India (RBI), the financial regulatory body of the country have taken cognizance of the problem and have come up with a smart and sensible solution. Three important changes have been made to the repayment policy of educational loans.

1. The loan repayment period has been extended from 5 to 15 years.
2. The possibility of borrowers undergoing periods of unemployment between employment because of weak market conditions has been factored in.
3. The borrowers may not find employment with enough salary to pay the entire EMI amount initially so the borrowers could start repaying in smaller amounts and hike up repayment amount in due course of time.

To understand why this has been done, there are 2 scenarios to be considered.

2. For loans above Rs. 7.5 lacs, financial institutions take collateral in the form of land or gold or anything of value equivalent to or above the total loan amount to be repaid. But this is not just a mere exchange between loan amount and an asset. Like every other loan, educational loans are also considered on the basis of the repaying capacity of the borrowers. First of all, borrowers are told to provide the confirmation of admission from the institution where they wish to study. Then the financial institutions check if the institution where the borrower wishes to study is in their list of approved colleges. After this, the borrower’s background is thoroughly checked which includes previous education history, work experience (if any), bank account details, financial credit score, etc. Borrowers are also asked to provide details of future job and salary expectations. This is done to ensure that financial institutions do not perceive any risk in repayment by the borrower. But now, financial institutions are using the Security Act to squeeze out repayment from every borrower without being sensitive to market conditions. When the loans becomes risky they are shifting the blame entirely on to the borrower.
3. Broadly classified there are two types of assets. Tangible and Intangible assets. Examples of tangibles assets are house, gold, land, etc. Educational loans come under the category of intangible assets. Using a tangible asset to recover loan amount paid for obtaining an intangible asset is ideally a very tricky scenario. To do this, the ideal conditions are, either the degree has become worthless or the borrower has become incapable of repayment. When financial institutions themselves helped the borrower to obtain the degree, they cannot claim it to be worthless. If the borrower happens to be a defaulter because of reasons beyond his/her control such as macroeconomic issues and is able to prove this in a court of law, the financial institutions will never be able to recover the loan amounts.

It is this deadlock situation that the Government and RBI have decided to step in to try and ease the pressure on both the lenders and the borrowers.

First of all, by extending the loan repayment duration and dividing the repayment amount into equal EMIs over the entire duration, the EMI amount becomes considerably lower. Then the possibility of borrowers becoming unemployed in between employment has been considered. Finally but most importantly, no defaulter can survive for 15 years without earning an income. Everyone has to earn money to a minimum level to survive. So borrowers are given the opportunity to start with small payments and increase payment amounts during the life cycle of the loan repayment period.

There is a very important catch in the amendment that has been done. The amendment exercise was started in 2012 and completed in 2015 with further amendments in 2016. By default, financial institutions will consider the amended loan repayment scheme for new educational loans only. But the amendment has not been done under the assumption that future borrowers could become defaulters and those loans could become NPAs. The amendment has been done keeping in view the extreme distress the existing borrowers are undergoing. If this is the case, it could be argued that existing borrowers should benefit from the new repayment scheme. The question here is, why haven’t this been mentioned by the government and RBI?  Simply because financial institutions have more problems dealing with willful defaulters and providing the repayment extension period to all existing borrowers will benefit the willful defaulters as well. So if the borrowers have become defaulters due to genuine reasons such as market conditions, have done repayment in the past and have excellent relationship with the people they have been dealing with in the financial institutions, they can either approach the financial institutions and request for considering their loans under the new repayment scheme and if they are refused, they can approach the appropriate court with the request.

Ultimately, only excellent credibility of the borrower will come in handy here so it is very important to never lose focus from repayment of loans and more importantly maintaining excellent relationship with the financial institutions, communicating with them constantly and making them completely aware of the borrower’s plight.