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Exchanging Old notes for New (India's demonetisation policy) – New Wine in New Bottle

By Lawfarm Team November 15, 2016

Declaring Rs 500 and Rs 1000 denominations worthless in a span of four hours is a bold move.

It has definitely led to host of questions, flooding the internet, the newspapers, and of course, the minds of common people. Can this really be done? What will I do now? How can we transact now?


For most of us, it is not really going to have a major effect. Directly that is. Indirectly, the percentage of black money this is going to unearth will definitely result in better use of the nation’s currency resources, which in turn will impact the services we receive from the state.

This article is an attempt to examine the legal aspects of this announcement.

Rules on Demonetisation

Demonetisation of currency is not unheard of in India, albeit a rare occurrence. This is the third such instance, after 1946 and 1978, when large value currency notes were taken out of circulation. In recent past also, December 2015, RBI had announced that it will withdraw pre-2005 currency notes from the cash economy, and gave 6 months window period for everyone to exchange their pre-2005 notes.

As per the Currency Symbol Order, RBI is the sole authority to decide on the print on the currency note, the font style, size of denomination and colour of note. Except for Re 1 currency note, which is printed by the Central Government, this applies to all other notes. However, under Section 26 of the Reserve Bank of India Act, 1934, the Central Government is empowered to notify a currency as legal tender, and also to demonetise a currency. In other words, the Central Government, on the recommendations of a Central Board, is allowed to declare a currency invalid, by way of a notification of the Official Gazette of India. After the public announcement, RBI has issued two new notifications on issuance of new currency note for Rs 500 and Rs 2000, displaying the different security features, the colour, font type and font size of the numbers, RBI governor’s public declaration.

The Impact

On Unaccounted Currency in Economy - The major impact will only be on those who are holding hoards of cash of Rs 500 and Rs 1000 denominations. So the only worry is for jewellers who have had a huge sale in November first week and forgot to deposit the cash in the Bank, or those holding on to unaccounted money from various illegal transactions.

 Everyone uses money. Everyone has Rs 500 and Rs 1000 notes. Everyone therefore needs to approach the bank to exchange it for new notes, as per the notification issued by RBI dated 10.11.2016. Clearly, the biggest losers will be the ones who will not be able to explain the huge amount of cash that they need to exchange. This will flash an automatic spotlight on these depositors, and further investigation on their source can commence. 

On Counterfeit Currency – Since all major currency is going to take a new took from November 11 onwards; the question of fake currency does not really arise, unless one takes into account the smaller denominations of Rs 10, 20, 50 and 100. Incidentally, the number of Rs 100 notes that would add up to One Crore would fill a truck!

On Trade and Commerce – Today, the percentage of population using hard cash for daily economic transactions is much less as compared to what it was a mere decade ago. Moreover, this change of currency notes is a state authorised move, so no one will actually lose their money. If one actually has One Lakh rupees worth in Rs 500 and Rs 1000 denominations, and it is all legally channelled, it can be easily exchanged. And business will continue to flourish. As already clarified, none of the other currency instruments like Cheques, DD, or electronic money would be affected. 

On the Psychology of the Masses – It is important to understand what currency is really. At the end of the day, it is a piece of paper, with the Governor of RBI’s publicly declared promise that the amount of money on that piece of paper will be paid back to the bearer of the note. It further has foolproof markings on it to ensure it is not photocopied or re-printed. The amount of money spent to print a Rs 1000 note is approximately Rs 3.17, according to an RTI reply filed in 2012. This means, in effect, Rs 997 is nothing but the faith of the people on the promise made by the Governor of RBI. This faith will not really be affected by fresh currency note, but actually go on to repose their faith even more.

The Element of Surprise

Another laudable strategy was the element of surprise in the whole announcement.

Both the previous times, the demonetisation occurred by way of an ordinance, which was later passed by the Parliament. Only after receiving the President’s assent, the specified currency notes were declared to have ceased to be legal tenders. However, this time, the manner of announcement, and the window given for people to accept the sudden demonetisation has been astonishing. Not only did it withdraw ALL Rs 500 and Rs 1000 notes, but also overnight. There was no RBI notification till the PM’s public address to the nation. Even after that, there is only an FAQ page on RBI confirming the sudden demonetisation, and further notifications regarding the bank hours, issuance of new Rs 2000 notes and other logistical aspects.

Not only has it shocked the people, it has literally taken the black money hoarders aback. The timing too must be appreciated given the fact that the Banks were ordered to be closed for next day, and that stock and the markets too were closed at that time. The market will definitely absorb the positive effect of this initiative and respond accordingly in the days to come.

What next?

The law breakers are always one step ahead of the law makers. Every year, the Finance Act strengthens the tax evasion norms, only to fill in the loopholes discovered in the past year. Therefore, already various loopholes are being debated across office desks and local tea shops. For instance, there was a rush to buy 1st AC train tickets and flight tickets from physical counters. The simple idea was to cancel the tickets after a few days, at least the cancellation amounts were lower than the penalties imposed on unaccounted cash deposits above a certain limit. For this, immediately within a few hours, the Railway Ministry decided to investigate these bookings and the Civil Aviation Ministry directed all the Airlines not to cancel the flight tickets booked via physical counters.

Thus, it is an amusing tug of war between Tom and Jerry. Mostly, Jerry comes out as the smarter one, but Tom never gives up, and tries to trap Jerry in every possible manner.

The other options available to the illegal hoarders can range from burning the money, or mutilating the currency notes. This will only go on to make the economy cleaner, since an already unaccounted form of currency is getting obliterated from the system altogether.

However, it is quite possible that the hoarders do manage to deposit their black money into different accounts, using different ID card, or through their relatives. After all, housewives have been give Rs 50,000 leeway for depositing their cash. Moreover, there are legitimate concerns that the hoarder escapes liability, and can now continue his hoarding activity through illegal channels using new currency.

But it is important to understand that it is the big fish that the government is after. There is a need to curb the increasingly blatant prevalence of black money, and this is one innovative way.


The common thread running across each of the demonetisations is the underlying reason – to curb illegal money. Unaccounted money, especially in hard cash is estimated to account almost 80% of the legal economy in India!

Further, the money stashed abroad in various Swiss banks, and sent out through hawala operators evidently falls out of purview of this demonetisation. This has to be innovatively dealt with; a new technology that can identify currency notes above a particular value may be explored further. Moreover, this bold move might even force some of the existing defaulters to come forward and declare their illegal income under the Income Declaration Scheme. IDS is another government initiative where the defaulters were voluntarily incentivised to come forward and declare their unaccounted money by paying a lesser penalty.

Thus, the intention is welcome, the initiative is commendable. The implementation is happening. It remains to be seen how effective it has been. We can hope for the best, and prepare for the worst.


Author: Shruthee Srinivasan, Advocate

Tags: 500 , 1000 , 500 note demonetise , 500 1000 notes india , demonetisation policy , rbi , narendra modi 500 1000 , black money , corruption , hawala , india currency demonetisation , five hundred , one thousand , new notes

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