The First Step in Manipulating the Cash Economy

On Tuesday, I talked about how the European Central Bank (ECB) was pushing people further into the electronic monetary system than ever before.

As I explained, the ECB won’t be producing €500 (AU$714.82) notes past 2018. And then, as the large notes make their way through the bank, they will be taken out of circulation.

You see, the ECB is removing the €500 note, as only ‘bad people’ use them. Apparently, only criminals use large notes. Because a ‘good person’ would never dare use a large denomination to pay for goods and services, would they?

But if it really is about stamping out black market activity…why doesn’t the ECB withdraw the €500 note immediately?

After all, that’s what Prime Minister Narendra Modi of India did two weeks ago.

When the US popularity contest was taking over mainstream Aussie news, Modi said that he was withdrawing the 500 (AU$9.72) rupee and 1,000 (AU$19.44) rupee notes from circulation, effective immediately.

You see, Modi made the same claim as the ECB. He was taking the large notes out of circulation in India straight away to stamp out crime and tax evasion. These notes will be replaced with new 500 and 2,000 rupee notes, instead of the 1,000 rupee note. But they weren’t entirely ready to go when the announcement was made.

And the fallout in India has been catastrophic.

This is a stunning de-monetisation experiment Modi is undertaking in India. Essentially, he is forcing people to hand over their savings, pay some tax, and then draw them into the formal financial system.

Furthermore, the withdrawal of the large notes is having catastrophic consequences across India.

The ATMs haven’t been calibrated to handle the new notes. Many people are queuing for most of the day, only to discover the banks have imposed withdrawal limits. Local shops are closed, as they don’t have the change to accommodate the new larger notes.

As the LA Times reported this week:

Indian media report that at least five people have died of exhaustion while waiting to change money outside banks, and that three children have succumbed to illnesses that private hospitals wouldn’t treat because their families had only old notes.

What complicates this further is that 90% of transactions in India are carried out using cash. And the majority of people who use cash are the middle class and poor.

Oh, and criminals, of course.

Part of the conditions of swapping the old notes for new ones was that the bank would only start asking questions on deposited amounts in excess of 250,000 rupees (AU$4,971). And if you couldn’t prove you had paid tax on it, you’d have to pay the tax, and a 200% fine.

All that black-market money Modi wanted to flush out through this process? It’s gone elsewhere.

Somehow, it seems to be finding its way into gold.

When Modi made the announcement, goldsmiths in certain parts of the country loaded up on gold…and waited. In the 12 hours that followed the announcement, goldsmiths and jewellers alike opened their doors — in some cases until well beyond midnight — and accepted very large cash transactions, including the newly-declared ‘illegal’ notes.

The average for the night was 37,000–38,000 rupees (AU$724–743) for 10 grams of gold.

This was well above the Indian going rate of 30,000 rupees (AU$587). Rumour has it that the price spiked as high as 48,000 rupees (AU$939) for a short time.

In addition to the money finding its way into gold, the ‘black money’ — as money derived from criminal activities in India is called — found its way into other luxury items. The Economic Times reported that many retailers of designer items — such as Rolex and Dior — emailed their clients advising them that stores would be open until midnight.

Investing money outside the banking system is one of the smartest things a person can do. If you have a small portion of your wealth in bullion, for example, you have wealth that the government can’t meddle with.

What’s most frustrating here is the government’s rhetoric in targeting so-called ‘black money’.

It’s not just naughty people that want to keep their money away from the government.

The thing is, this isn’t about bringing all the criminals into line and forcing them into digital money. It’s a tax grab. It’s just another way for the government to increase taxation — and strong-arm the population into digital money.

Already the Reserve Bank of India says it has received 5.12 trillion rupees (AU$100 billion) in bank notes. Not all of this will be taxed. In fact, I find it highly unlikely that this will bump up government revenues in the long term.

But it’s the start of the Indian government being able to dominate the nation’s cash economy.

You see, Modi has removed and replaced the notes he has taken from people, forcing them to declare what little wealth they have with the banking system.

This is the first step to merging people into the banking system. The second step — and I’ll bet some rupees on it — is that you’ll see comments about how the Indian banking system is ‘easy’. And, over the course of the next couple of years, the government will increase ‘financial literacy’ programs for the people.

After that, smaller notes in India will become less common. It’s unlikely the 10 and 20 rupee notes (effectively 19 and 39 Aussie cents respectively) will survive beyond this decade.

How will the Indian government make those notes worthless? Inflation.

The easiest way to destroy the value of low-denomination notes is to erode their face value through inflation.

Let the Indian government accuse the criminals of hoarding their money in gold and luxury items. Chances are high that those hiding their money in gold will see their wealth protected as the Indian government twists monetary policy.


Shae Russell,
For Markets and Money

Editor’s Note: Newman Show Hijacked! James Woodburn and Kris Sayce hijacked The Newman Show to discuss recent market news across Money Morning and Markets and Money.

Join Woody and Sayce for an informal discussion on…Trump infrastructure spending… where the money’s going…resource investment opportunities…how far the Aussie housing market has left to run…the war on cash… You can watch all that, and more, right here.

Shae Russell started out in financial markets more than a decade ago. Working with a derivative brokering firm, she helped clients understand derivative markets, as well as teaching them the basics of technical analysis. Since joining Port Phillip Publishing eight years ago, Shae has worked across a number of publications. She holds the record for the highest-returning stock recommendation, in which a microcap stock returned over 1,200% in six months. Ask her about it, and she won’t stop yapping on. For the past two years, Shae has worked alongside Jim Rickards as his Australian analyst, translating global macro trends for Aussie investors, and how they can take advantage of these trends. Drawing on her extensive experience, Shae is the lead editor of Markets & Money. Each day, Shae looks at broad macro trends developing around the world, combining them with her distaste for central banks and irrational love of all things bullion.

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