What is Currency Demonetization?

Understanding currency demonetization in the Indian economy.

In the wake of PM Narendra Modi's plea to the people of India to bear the pain of standing in queues for the "next 50 days", many are still clueless as to why the currency demonetizing move was taken in the first place.

While the intellectual cream of the society support this sudden move by the government to strike at black money laundering in the country, the poor fail to understand the drama.

The strike of midnight November 8 saw most of India sleepless as PM Narendra Modi announced that currency denominations of Rs 500 and Rs 1,000 were rendered illegal. This move, otherwise known as currency demonetization, had taken the people by surprise. But, there is nothing to worry, albeit the long queues, say economists and experts.

[Read: Demonetisation- What is a Micro ATM]

What is Currency Demonetization?

It is a radical financial step in which a currency unit's status as a legal tender is declared invalid. This move is usually executed when old currencies have to be replaced by new one's or whenever there is a change of national currency. However, given the extent to which the project has to be executed, the move has to be well planned in advance.

[Read: Rs 500/1,000 notes valid for key utility payments till Nov 24]

However, in the present situation, the move proved to be surprise as citizens had only 4 hours to react to the PM's statement. It is to be noticed here that this was not the first time that India went for the demonitisation of high-value currency.

It first happened in 1946 when the Reserve Bank of India demonetised the then circulated Rs 1,000 and Rs 10,000 notes. Higher denomination banknotes in Rs 1,000, Rs 5,000 and Rs 10,000 were introduced eight years later in the year 1954. These very notes were again demonetised by the Morraji Desai government in 1978.

Black money then and now

The demonetization move of 1978 too was made to tackle the black money economy. In the year 1978, the Indian government demonetised Rs 1,000, Rs 5,000 and Rs 10,000 notes, which were quite substantial then. The move was executed under the High Denomination Bank Note (Demonetisation) Act, 1978.

[Read: Former RBI governor Raghuram Rajan on black money, demonetization: Clever find ways around it]

Under this law, all high denomination bank notes ceased to be legal tenders after January 16, 1978. People carrying these notes were given a week's time to exchange the currencies, unlike the present situation where the government has given a months's time to exchange the denominations.

[Read: Rahul questions government's demonetization move ]

The main difference then and now, however, is that the currency of higher denomination was barely in circulation, unlike the Rs 500 and Rs 1,000 notes today.