Currency withdrawal, TCS will revive uncertainty, not economy

On May 16, Government of India (GoI) announced it would impose a TCS (tax collected at source) of 20% on all international credit and debit card transactions made by Indians on foreign travels from July 1, 2023. On May 19, RBI announced the ₹2,000 note would be withdrawn from circulation but would remain legal tender. The consensus seems to be that both are non-events, will not impact many and will not cause real damage to the Indian economy. That may well prove correct. But the interpretation misses the wood for the trees. We need to take a step back and understand that both announcements are problematic.First, it is not clear why either measure was necessary. The ₹2,000 note was introduced during the demonetisation episode of 2016 partly as a means to rapidly remonetise the economy till currency notes of other denominations became available. As per RBI’s recent notification, these notes have served their purpose and are no longer commonly used for transactions.If this claim is correct, why the need to withdraw them from circulation now, instead of letting the notes become naturally redundant? RBI could have simply instructed banks to stop dispensing these notes.Since the notes are not being de-monetised and retain their value, RBI could have also allowed users to exchange or deposit them over an unlimited period of time, instead of imposing a deadline of September 30, 2023. It is not clear why this deadline is necessary, nor is it clear why it was sprung as a surprise instead of giving users and banks ample notice to prepare for the change. Even if the ₹2,000 notes account for only 10.8% of total notes in circulation, withdrawing them will inconvenience many, especially those in the cash-based informal sector, still recovering from the pandemic’s devastating impact. ShowBlurbsGoing against own ambitionThe rationale behind imposition of the TCS is even less clear. If the purpose is to collect information about a few people allegedly spending large amounts abroad using credit or debit cards thereby bypassing foreign purchase limit of $2,50,000 under the LRS (liberalised remittance scheme), then this announcement is a disproportionate response because it will end up penalising every Indian who travels abroad and makes legitimate international transactions. This is similar to the demonetisation episode when the country was inconvenienced to punish a few.More fundamentally, the Indian economy has enormously benefitted from liberalisation reforms of early 1990s. In the last three decades, Indians undertook vast amounts of cross-border transactions. A significant percentage of Indians live in a globalised world where they can easily travel to other countries for leisure or education or business purposes. We need to encourage free flow of people and money across borders to enjoy the fruits of globalisation. The ability to spend using credit or debit cards anywhere in the world is a critical element of this process. By making these purchases costlier, the recent TCS rule disrupts the financial freedom a growing number of Indians have come to enjoy over the years, both at an individual level and from a business perspective.Second, it seems ironic that these announcements were made when the country is trying to internationalise its currency, for example by using it to trade with other countries. An important prerequisite for a currency to become international is people having confidence in it. Frequent withdrawal of currency notes without prior warning or increasing the cost of using the currency overseas dent the credibility of the rupee and move India farther away from the goal of making the rupee an international currency.Missteps revive uncertainty, not economyFinally, both these announcements come at a time when the Indian economy is struggling to find its feet. Forecasts by major organisations show the economy is going to slow down in 2023-24. Much of the growth of the last year was due to release of pent-up demand following removal of pandemic-related mobility restrictions. That pent-up demand is exhausted.The two main engines of growth have also not been performing well. Non-oil goods exports contracted on a year-on-year basis in the quarter ending March 31 and private sector investment remains sluggish. At such a juncture, it is important for GoI to create an environment where the private sector feels confident to start investing again.Instead, the surprise withdrawal of the ₹2,000 notes bringing back memories of demonetisation and the abrupt TCS measure undermine confidence in the policy framework. Such uncertainty further discourages private investment.To revive rapid economic growth, it is essential to ensure policy stability and predictability. The recent announcements are likely to create the opposite effect; also a reminder that GoI without warning can introduce rules that may disrupt investment plans and hamper economic freedom. A proliferation of rules and regulations in this manner may seem non-events at first brush, but cause long-term damage to the economy.Read the other side here: Withdrawal of ₹2,000 notes will smoke out hoardersThe writer is associate professor, IGIDR