Why Narendra Modi's Demonetization measure violates the RBI Act and creates financial anarchy

Why Narendra Modi's Demonetization measure violates the RBI Act and creates financial anarchy
- by Seema Sapra

The Demonetization measure dated 8 November 2016 is a notification issued by the Government of India under Section 26(2) of the Reserve Bank of India Act 1934. The Demonetization notification is not only a fraudulent exercise of power but is also ultra vires Section 26(1) and Section 26(2) of the RBI Act. 

Section 26 of the RBI Act reads: 
26. Legal tender character of notes.
(1) Subject to the provisions of sub-section (2), every bank note shall be legal tender at any place in [India] in payment or on account for the amount expressed therein, and shall be guaranteed by the [Central Government].
(2) On recommendation of the Central Board the [Central Government] may, by notification in the Gazette of India, declare that, with effect from such date as may be specified in the notification, any series of bank notes of any denomination shall cease to be legal tender [save at such office or agency of the Bank and to such extent as may be specified in the notification]. 

The Demonetization notification can be read at http://finmin.nic.in/172521.pdf

Let us examine the violations of Section 26(1) and (2) by the demonetization notification. 

Under Section 26(2) the Government of India (GOI) can only demonetize "any series of bank notes of any denomination" at a time. The GOI with its demonetization notification has overnight demonetized two entire denominations of bank notes worth about 86% of the currency in circulation in India. The scale of the demonetization extending to 86% of the currency and its temporal immediacy (a mere 4 hour notice period issued at 8 pm on November 8) renders this measure a violation of the legal tender guarantee of the GOI under Section 26(1) of the RBI Act. 

The power under Section 26(2) has to be exercised for justifiable and valid reasons which would be subject to judicial review. Further the measure adopted must be reasonable and must be commensurate with and proportional to the objective sought to be achieved. It should not cause excessive financial, monetary, and economic disruption, loss and hardship that could have been avoided and which is not necessary to achieve the legitimate objectives of the exercise of power under Section 26(2). 

Modi's demonetization notification claims to have three objectives. These are reproduced below: 
"And whereas, it has been found that fake currency notes of the specified bank notes have been largely in circulation and it has been found to be difficult to easily identify genuine bank notes from the fake ones and that the use of fake currency notes is causing adverse effect to the economy of the country;
 And whereas, it has been found that high denomination bank notes are used for storage of unaccounted wealth as has been evident from the large cash recoveries made by law enforcement agencies;
 And whereas, it has also been found that fake currency is being used for financing subversive activities such as drug trafficking and terrorism, causing damage to the economy and security of the country and the Central Government after due consideration has decided to implement the recommendations of the Board;" 

It is submitted that out of the three statements of objectives and purposes of the notification, it is only the fake currency issue that can amount to a valid reason for the exercise of the demonetization power under Section 26(2) of the RBI Act. It is further submitted that the demonetization notification is arbitrary and unreasonable in law and ultra vires the statute as the measure adopted is far in excess of what the GOI needed to do to counter fake currency notes. The statement in the notification that "it has been found to be difficult to easily identify genuine bank notes from the fake ones" is factually incorrect and seems to have been included with malafide intent. There can be no justification for the withdrawal of legal tender character from 86% of currency in circulation merely to target the less than 1% of fake currency in circulation. Less extreme and less restrictive measures were available to the GOI to address the fake currency issue.  

It is important to understand that there is no legal bar on Indian citizens keeping their wealth and legitimate earnings in cash if they so desire. Therefore cash does not ipso facto equal black money. Further, demonetization cannot be used as a tax enforcement measure. The RBI is not a tax authority. Therefore demonetization cannot be justified in law for the second reason mentioned in the notification. Demonetization also cannot be a money laundering measure. The Demonetization notification in so far as it seeks to justify itself as an attempt to tackle tax evasion or money laundering is illegal and issued without authority of law. Withdrawal of legal tender character from bank notes for the purpose of addressing tax evasion or money laundering does not fall within the ambit of Section 26(2) of the RBI Act. The Demonetization notification is bad in law as it targets all citizens indiscriminately and without due process of law. 

Modi's demonetization measure is not bold; its foolhardy with grave long-term consequences. The Government of India intends to default on its debt, owed not to a foreign sovereign or foreign bank, but owed to its own citizens, both rich and poor. Nobel laureate, and Economics Professor Amartya Sen has called the demonetization measure a “despotic action” betraying the “authoritarian nature" of the Modi administration. Sen aptly captures the enormity and capriciousness of Narendra Modi's reckless gamble with the most solemn of promises by a Central Bank - to honor its promissory notes to its citizens. He states:  
“Telling the public suddenly that the promissory notes you have, do not promise anything with certainty, is a more complex manifestation of authoritarianism, allegedly justified — or so the government claims — because some of these notes, held by some crooked people, involve black money. At one stroke the move declares all Indians — indeed all holders of Indian currency — as possibly crooks, unless they can establish they are not.”

US economist and former Secretary of the US Treasury Lawrence Summers has called this measure expropriation which has not only caused chaos in India, but also a "loss of trust in government". He points out the moral and ethical problems with such indiscriminate targeting of 85% of the currency when he writes: 
We recognize that many of those who hold large quantities of cash in India have come by their wealth in corrupt or illegal ways. So, the temptation to expropriate is understandable. After all, as the argument goes, anyone who came by their wealth legally has nothing to fear from coming forward and exchanging old notes for new ones.
Most free societies would rather let several criminals go free than convict an innocent man. In the same way, for the government to expropriate from even a few innocent victims who, for one reason or another, do not manage to convert their money is highly problematic. Moreover, the definition of what is illegal or corrupt is open to debate given commercial practices that have prevailed in India for a long time."

Statements made by Prime Minister Narendra Modi, Finance Minister Arun Jaitley and by the Attorney General Mukul Rohatgi on the demonetization measure establish that the demonetization notification has been issued by the GOI with the intent to expropriate money from its citizens without due process of law. The Modi administration is celebrating the fact that they expect large amounts of the now demonetized bank notes not to be deposited in banks or exchanged with new currency. This establishes the intent of the GOI to expropriate money from citizens without the due process of law. Statements from the Finance Minister Arun Jaitley suggest that the GOI will use this expropriated money to bring down its fiscal deficit in the Union budget. 

The Modi administration is also calling the demonetization a success because of the large deposits of demonetized bank notes in banks since 8 November. The Attorney General Mukul Rohatgi defended the demonetization measure as a "success" in legal proceedings before the Supreme Court of India by stating that 6 lakh crore Rupees had been collected till date and that therefore “Banks will be flush with money and lending rates will come down”. This statement needs to be understood in the context of the large debt burden of public sector banks in India on account of bad loans to corporates and the imminent banking crisis in India because of the scale of the non-performing assets of India's Government owned banks. The total amount of Gross Non-Performing Assets (NPAs) for public and private sector banks stood at around Rs. 6 lakh crore in June 2016. The Government of India needed to recapitalize its PSU banks to stave off a full-blown banking crisis. Even though the demonetization notification does not mention this, it does appear as if the Modi administration did expect the demonetization to result in enough money flowing into the PSU banks so as to obviate the need for the GOI to recapitalize the banks, which would have budgetary consequences for the fiscal deficit. The fact that the demonetization notification itself does not mention bank recapitalization as an objective is because this is impossible to justify both legally and morally. Looking at the demonetization measure as a bank recapitalization measure also helps explain why the Modi administration has placed illegal limits on citizens' rights to withdraw and spend money from their own bank accounts. 

Savings of the poor and middle class are being used to offset the debt write-offs of bad bank loans given to corporates. The Modi Government has refused to name the worst bank defaulters. A mere 57 defaulters owe Indian banks Rs 85,000 crores, yet the GOI does not want to publicly identify these entities and individuals. Why? Just days after the demonetization notification, the State Bank of India wrote off Rs 7,016 crore worth of loans owed to it by 63 wilful defaulters. Now it has emerged on 18 November, that the State Bank of India will provide a loan of $ 1 billion (over Rs 6,000 crore) to Adani Mining for its controversial mining project in Australia. This project is of no benefit to India. Why should an Indian PSU bank fund it? Is Adani in the list of existing bank loan defaulters? It is well known that Modi has close ties to Adani. The new Adani State Bank of India loan will not be possible without the demonetization measure. It is therefore obvious that the Modi Administration is using the demonetization measure to transfer wealth from the poor and the middle class to corporates and to the GOI. 

The Government of India has also cluelessly violated Section 26 of the RBI Act by allowing for several exemptions to the legal tender status of the cancelled bank notes. Once the GOI notifies under Section 26(2) that any bank note series has ceased to be legal tender, Section 26(2) itself mandates that such bank notes can only be exchanged at an agency or office of the RBI as notified. The GOI has no power to thereafter permit such demonetized bank notes to be used for some select transactions at Government outlets or petrol pumps, or at hospitals, or at airline ticket counters or to pay GOI dues, or for farmers to buy seeds, etc. These exemptions and rules are all ultra vires Section 26(2) and amount to an illegal and arbitrary exercise of power in violation of the Article 14 equality guarantee of the Constitution of India. The only way to describe this situation is financial anarchy. 

Further under Section 26(2) of the RBI Act, the GOI does not have the power to place limitations on cash withdrawals by citizens from their bank accounts or from ATMs. The notification in so far as it places these restrictions is ultra vires Section 26(2) of the RBI Act. Such limitations are illegal. 

Similarly, under Section 26(2) of the RBI Act, the GOI does not have the power to limit the amount of demonetized bank notes that citizens can exchange at the RBI in cash. The notification in so far as it places these restrictions is also ultra vires Section 26(2) of the RBI Act. 

There is also a larger question of whether the demonetization notification is a fraudulent exercise of power in that the news of the proposed measure was selectively leaked in advance and whether therefore the notification has the hidden agenda of influencing imminent elections in India and targeting Narendra Modi's rivals and detractors. There is mounting evidence that news of the demonetization measure was selectively leaked out. The demonetization notification issued under Section 26(2) of the RBI Act is also issued upon the recommendation of the Central Board of the RBI. Now the RBI Central Board has representatives from private industry. Under RBI rules, the Central Board members must be given advance notice of Central Board meetings and agenda. Therefore how can the GOI claim that the demonetization announcement was kept secret? This completely destroys the GOI argument that the need for secrecy is the reason for the Government's unpreparedness in dealing with the consequences of the notification which has created an artificial currency shortage in the country and which is adversely impacting people's daily lives and work and economic activity.

The unprecedented, misconceived and fraudulent demonetization notification of the Narendra Modi Government is nothing but the declaration of an unannounced financial emergency. It has eroded public trust in the Government of India and its legal tender guarantee. It smells of a scam and there is no transparency about how and why this action was taken by the Government of India. Who was consulted? What are the real reasons for the demonetization notification? Narendra Modi has called his demonetization measure a revolutionary step. As Pratab Bhanu Mehta warns us the Modi years ahead portend a "permanent revolution" where "Law does not matter, form does not matter." What Modi forgets is that he heads a government 'limited' by the Constitution of India, and that revolutions do not feature in the constitutional scheme, the rule of law does. Narendra Modi's demonetization measure violates the law and this is not condoned by either popular support or by the perceived benefits being touted by the defenders of this measure. Modi's demonetization measure also fails on the risk management plank of prudent governance. Imagine if India were to be suddenly confronted by a big natural or a man-made disaster or if India were to face any external aggression during this period of Modi-induced weakness and instability. How would the country and people facing a scarcity of cash cope? Modi's reckless gamble has exposed the country and its citizens to unnecessary and imprudent risk.  An administration that has messed up so monumentally for all of the above reasons has no right to continue in power. Prime Minister Narendra Modi should step down from his office along with Finance Minister Arun Jaitley. 

Donald Trump's win explained by unraveling of the social and political consensus on "embedded liberalism" in the United States as a consequence of globalization

I think Trump’s win and the Brexit vote can both be explained as resulting from an unraveled social and political domestic consensus of “embedded liberalism” within the US and the UK respectively, as a consequence of globalizing forces. Trump’s win is the reassertion of political voice by those in the US who have been left behind by globalization and is the beginning of the search for a new social and political domestic consensus on “embedded liberalism”. We are entering a period of increased nationalism globally and this will eventually be followed by the creation of a new world order, if we don’t end up destroying the world with wars before that.

Many of Trump’s election promises are intended to get US policy to step back from globalization and to focus instead on domestic problems and issues. This would mean less US intervention abroad which at the present time would be good, given how destructive US intervention overseas has become.

The real fight in the 2016 Presidential election and its aftermath seems to be over who controls US policy and for whose benefit. Should US policy work for banks, multinationals like GE, oil companies, and large Defense contractors which have global interests now, or should US policy work for disenfranchised, poor and marginalized American citizens. This is what this election was about and why Trump won. But to what extent Trump will get co-opted by global corporate and military interests, we will eventually find out.

For more on the idea of “embedded liberalism” read The Great Transformation by Karl Polanyi and also John Ruggie on embedded liberalism at http://ftp.columbia.edu/itc/sipa/U6800/readings-sm/rug_ocr.pdf

And here is a more recent article by John Ruggie – The Principles of Embedded Liberalism: Social Legitimacy and Global Capitalism, Rawi Abdelal and John G. Ruggie at http://www.tobinproject.org/sites/tobinproject.org/files/assets/New_Perspectives_Ch7_Abdelal_Ruggie.pdf
which offers interesting insight into the origins of the issues which mattered in the 2016 US election and which led to Trump’s win. Trump’s shock victory is really a backlash against globalizing forces and an attempt by marginalized American citizens to wrest back control over US policy.

The US liberals or the Democrats as they call themselves are if anything even more hypocritical than the Republicans. The Republicans at least don’t lie to themselves and to others that US dealings with the rest of the world are not motivated only by greed and self-interest. This is why US liberal journalists paint Obama or Hillary as lesser threats to liberal values than Trump. The fact is that Obama and Hillary were far worse than anything they project Trump as capable of, except in two areas of only domestic concern – abortion and gay rights. And though a US President is relevant to US legal regimes on abortion or gay rights, I don’t think the deep state that was supporting Hillary cares much about either of these two issues. So, I don’t think the election in 2016 turned on either of these issues.

Another thing which is puzzling is the liberal (read Democratic) opposition to Trump’s positions on illegal immigration, the “wall” and greater terror related scrutiny on grant of visas. Why do the Democrats want and condone illegal immigration into the US, primarily from Mexico etc. Why are they against secure borders. Why did they not protest about how the US treated Muslims overseas and at home during Obama’s 8 years. Why are they so troubled instead by Trump’s statements that he would allow Muslims in only after a secure terror-based vetting process was in place. For most people in the world, getting a US visa is already subject to all kinds of vetting.

The Democratic party depends upon the Latino votes on the East and West coasts for power. Without the Latino vote, the Democrats would be politically weakened. Therefore, the Democrat stance on immigration is essentially a self-serving one which they need to adopt if they want to win elections and power. It is not an honest, objective position based upon respect for the US Constitution and rule of law.

I too had written about the idea of “embedded liberalism” in these three articles which are available on the internet.

Chapter titled ‘Domestic Politics and the Search for a New Social Purpose of Governance for the WTO: A Proposal for a Declaration on Domestic Consultation’ in Debra Steger (ed.) Redesigning the World Trade Organization for the Twenty-first Century, Wilfrid Laurier University Press, 2009

Chapter titled ‘New Agendas for International Economic Law Teaching in India: Including an Agenda in Support of Reform’ in Colin B. Picker, Isabella Bunn & Douglas Arner, (ed.) INTERNATIONAL ECONOMIC LAW – THE STATE & FUTURE OF THE DISCIPLINE, Hart Publishing, 2008

‘Ideas of Embedded Liberalism and Current and Future Challenges for the WTO’, in Ortino and Ripinsky, WTO Law and Process, British Institute of International and Comparative Law, 2007. pg 330 – 352

Why India should abolish the civil imprisonment of judgment-debtors

I address this issue in response to a post titled "The Bombay High Court’s S. 56 CPC Judgment and the State of Indian Sex Discrimination Jurisprudence" by Gautam Bhatia on his blog at https://indconlawphil.wordpress.com/2016/11/04/the-bombay-high-courts-s-56-cpc-judgment-and-the-state-of-indian-sex-discrimination-jurisprudence/

In my view, the entire concept of imprisoning a judgment debtor in the first place is unjust and an old-fashioned way of dealing with such a situation. I think Section 55 CPC itself needs review. The purpose of the law, i.e., to realize a debt owed can be achieved in other more effective ways that do not involve deprivation of personal liberty. Section 60 already provides for attachment and sale of property to realize the debt.

In fact if you look at the wikipedia entry on Debtors' Prisons, the entire concept of jailing people for a debt is being discarded by most liberal democracies, albeit slowly. Jailing people for debt is contrary to modern conceptions of human rights. 

Article 11 of the ICCPR, the International Covenant on Civil and Political Rights states, "No one shall be imprisoned merely on the ground of inability to fulfill a contractual obligation."

Article 1 of Protocol 4 of the European Convention on Human Rights prohibits the imprisonment of people for breach of a contract. 

The South African Constitutional Court in In re Farieda Coetzee v. Government of the Republic of South Africa (unreported, 1995), has ruled against the imprisonment of judgment debtors and has held that such imprisonment violates the right to freedom under the South African Constitution. See http://www.saflii.org/za/cases/ZACC/1995/7.html

I am also certain that empirical research will establish that it is almost always the poor who get jailed under Section 55. Section 55 contemplates arresting a judgment debtor who can then apply for insolvency to secure his release. How will a poor man in jail who has no money to satisfy a decree ever be able to afford/ organize a lawyer to be declared insolvent.

Also look at Sec 58. A man who owes Rs 501 can be jailed for six weeks, A man who owes Rs 1001 can be jailed for 3 months. Surely this law is archaic and not appropriate for the present times.

Going by this, Subrat Roy (Sahara) has served more time in prison than the maximum three months he could have been jailed for if there was an actual money decree against him.

So I do not agree with Gautam Bhatia that women should also get jailed for non-payment of a debt. Also in my view it is possible to argue that the overwhelming majority of Indian women face structural and institutional inequalities and discrimination that would justify section 56.

And similarly I also think that jailing someone for adultery in today’s age is archaic and an undue restriction of personal liberty. Divorce is a sufficient remedy for adultery. So I do not think that the law should also punish women for the crime of adultery. On the contrary adultery should be decriminalized for men as well.