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The Consequences of Demonetization: Evidence from the World's Largest Democracy

Paper Session

Saturday, Jan. 4, 2020 10:15 AM - 12:15 PM (PDT)

Marriott Marquis, Grand Ballroom 12
Hosted By: American Economic Association
  • Chair: Prashant Bharadwaj, University of California-San Diego

The Great Indian Demonetization

Amartya Lahiri
,
University of British Columbia

Abstract

On November 8, 2016 India demonetized 86 percent of its currency in circulation. The stated objectives of the move were to seize undeclared income, to destroy counterfeit currency, to speed up formalization of the economy, and to increase the tax base. I find that the evidence over the subsequent three years suggests that the move had limited success in achieving its stated objectives. Disaggregated data suggests that demonetization did have appreciable costs in terms of lost jobs and output. However, the output costs appear to have been temporary.

When Less is More: Experimental Evidence on Information Delivery during India's Demonetization

Abhijit Banerjee
,
Massachusetts Institute of Technology
Emily Breza
,
Harvard University
Arun Chandrasekhar
,
Stanford University
Benjamin Golub
,
Harvard University

Abstract

How should policymakers disseminate information: by broadcasting it widely (e.g., via mass media), or letting word spread from a small number of initially informed “seed” individuals? While conventional wisdom suggests delivering information more widely is better, we show theoretically and experimentally that this may not hold when people need to ask questions to fully comprehend the information they were given. In a field experiment during the chaotic 2016 Indian demonetization, we varied how information about demonetization’s official rules was delivered to villages on two dimensions: how many were initially informed (broadcasting versus seeding) and whether the identity of the initially informed was publicly disclosed (common knowledge). The quality of information aggregation is measured in three ways: the volume of conversations about demonetization, the level of knowledge about demonetization rules, and choice quality in a strongly incentivized decision dependent on understanding the rules. Our results are consistent with four predictions of a model in which people need others’ help to make the best use of announced information, but worry about signaling inability or unwillingness to correctly process the information they have access to. First, if who is informed is not publicized, broadcasting improves all three outcomes relative to seeding. Second, under seeding, publicizing who is informed improves all three outcomes. Third, when broadcasting, publicizing who is informed hurts along all three dimensions. Finally, when who is informed is made public, telling more individuals (broadcasting relative to seeding) is worse along all three dimensions.

Political Punishment and Financial Safety Nets: Evidence from India’s Demonetization

Gaurav Khanna
,
University of California-San Diego
Priya Mukherjee
,
College of William and Mary

Abstract

We analyze the electoral consequences of India’s 2016 “demonetization”: a unique policy that unexpectedly made 86% of the currency-in-circulation redundant overnight. We leverage a discontinuity in the number of bank branches arising from a nationwide district-level bank expansion policy, which was instituted by the previous government in 2005. As districts with fewer banks had greater cash shortages, we identify the impacts of the demonetization at the bank-expansion cut-off. We find that greater access to banks dampened the electoral consequences of demonetization. After demonetization, the ruling party did relatively better in regions with more banks. In subsequent elections, the ruling coalition received a lower fraction of the votes in regions that had discontinuously fewer banks. We explore mechanisms by using information on voter attitudes and preferences from a unique voter-level survey conducted a few months after demonetization.

The Supply-Side Effects of India’s Demonetization

Giri Subramaniam
,
Boston College

Abstract

I study the supply-side effects of a unique monetary shock – the 2016 Indian demonetization – that made 86% of currency in circulation illegal overnight. Using cross-sectional variation in firm and industry characteristics that correlate with exposure to the informal sector and with cash usage, I find that firms that obtain larger shares of labor or material inputs from the informal sector, experienced declines in their labor and material shares after demonetization. I also show that casual laborers were more likely to report being unemployed in the months following demonetization. These findings document a supply channel for demonetization and also show that cash plays an essential role in India’s informal sector. Crucially, given that India’s formal sector is highly dependent on the informal sector for labor and materials, any shock to the supply of cash is likely to have affected the economy as a whole.
Discussant(s)
Martin Kanz
,
World Bank Group
Cynthia Kinnan
,
Tufts University
Siddharth George
,
Dartmouth University
Rossella Calvi
,
Rice University
JEL Classifications
  • O1 - Economic Development
  • E5 - Monetary Policy, Central Banking, and the Supply of Money and Credit