Has the demonetisation exercise been successful? That is the question Kenyans will be asking after tomorrow. According to the latest figures provided by Central Bank, Kenyans have managed to convert only 116 million pieces of the old-generation Sh1,000 notes, representing 53 per cent of total 217 million notes in circulation.
There are two ways to look at the success of demonetisation. First is the fulfillment of the provision of Article 231 (4) of the Constitution. On this perspective, the exercise has failed because only 53 per cent the Sh1,000 notes have so far been converted, and by the end of Monday, it is clear that we won’t be at 100 per cent.
In the history of demonetisation around the world, success stories have been as a result of planners providing enough time for the exercise. Examples are: in 1946 the USA stopped printing currencies of 1,000, 5,000, 10,000 and 100,000 denominations and demonetised them after 13 years, in 1969; Britain announced plans to demonetise its currency in 1969 and demonetised after two years, in 1971.
The most recent case is Philippines, which introduced new currency in 2010 and demonetised the old currency in 2015, before finally recalling it in 2017. So Kenya’s low numbers of conversion are tied to the fact that the four-month period was not adequate to make the exercise successful.
Second is that, apart from meeting the constitutional requirement, the demonetisation exercise was also targeting black money generated through corruption. CBK put a deadline on the conversion of the highest denomination, the Sh1,000 notes that dominate 80 per cent of the money in circulation, targeting to hit those who are holding large amounts of dirty money in cash.
Unfortunately, history suggests that there is not much evidence of curbing black money through demonetisation, even if circulation of money is stopped as has been done in Libya, Zimbabwe and India.
This is because not all corruption income is necessarily cash income. In fact, most of ill-gotten cash never remains idle. It is always locked in physical assets such as real estate or high-value purchases, personal foreign travel and investment in unaccounted-for businesses.
Now, it will be a mistake to make the conclusion that all the Sh1,000 notes not converted by tomorrow evening is black money or represents the share value of Kenya’s illicit money market.
Kenya’s economy is primarily run on cash. According to the Financial Sector Deepening survey done between July 2016 and July 2019, farmers alone received 93 per cent of their payments in cash. The same goes for casual workers (97 per cent); dependents (almost 90 per cent); traders (96 per cent) and those in formal employment (37 per cent). Now, international comparison shows that there is a clear correlation between cash usage in the economy and the size of the informal economy.
Therefore, looking at how cash dominates transactions in the economy, bearing in mind that the Sh1,000 note dominates 80 per cent of money in circulation, that period was unrealistic and a sizeable number of the old generation notes in the informal sector, which isn’t black money, will be locked out, punishing legitimate cash owners.
Lastly, the four-month period we have been doing the demonetisation exercise has just been the monitoring part; the evaluation of its success will start on October 1, and that is where eyes need to be placed.
The history of demonetisation has it that short deadlines always lead to the economic consequences of a cash crunch since money in circulation is quickly sucked out but slowly replaced.
If not quickly addressed, demonetisation always disrupts businesses by curtailing consumer spending, resulting in negative growth.
For example, let’s assume 20 million pieces of Sh1,000 notes (which is Sh20 billion in value) is what will not have been converted by end of tomorrow and rendered paper. This means Sh20 billion worth of money has been taken out of circulation, resulting in a shock in the economy since less money will be chasing available goods and services produced at the demand level that had factored in the Sh20 billion.
Apart from that, CBK will also have “robbed” the public of Sh20 billion, which is akin to printing money. For CBK to get money back from circulation, it earns it by buying government securities from commercial banks and institutions.
In this case, it has mopped up at no cost and the Sh20 billion will be reported in CBK’s accounts as cash reserves only to be released by selling government securities, unless the government decides to pay the contractors and suppliers it owes through that deficit as a way of releasing money back to the public.
Mr Watima is an economist