Possible legal issues surrounding the ‘Demonetization’ move

This article has been written by Miracline Paul SusiMiracline Paul Susi.T is a 4th-year law student at School of Law, SASTRA University.

8th of November 2016 marked a groundbreaking change in India’s economy. Prime Minister Narendra Modi announced that 500- and 1,000- rupee notes were no longer legal tender. People were given 50 days to deposit them in bank accounts or to exchange them for new notes at banks. The Prime Minister asserted that removal of black money was sole aim behind this revolutionary process. While the economic consequences of demonetization have been extensively debated, the legal validity needs a detailed deliberation.

The first legal issue revolves around the Reserve Bank of India Act, 1934. The RBI Act gives the RBI the sole authority to operate the country’s currency and credit system. It gives the RBI the exclusive right to issue banknotes[1] and gives power to the central government and the RBI to decide on the non-issuance of banknotes[2]. The November 8 circular issued by the Finance Ministry demonetizing 500- and 1000- rupee notes was based on Section 26 sub-section (2) of the Reserve Bank of India Act, 1934. The section says that “on recommendation of the central board of the RBI, the central government may, by notification in the Gazette of India, declare that with effect from a date specified in the notification, any series of bank notes of any denomination shall cease to be legal tender.” The power of demonetization arrived at by this section constitutes an “essential law making function” which cannot be delegated to be fixed by the central government on its own determination. Only if the government is able to demonstrate that this was done based on a recommendation made by the RBI’s central board of directors it is legally valid, otherwise it would amount to gross “delegation of power”.

Secondly, the demonetization is not very new; it has taken place twice before, in 1946 and 1978, with the same goal of addressing unaccounted money. Unlike 2016 demonetization, both in 1946, and in 1978, the demonetization was authorized by an ordinance. In so far as Article 300A of the Indian Constitution is concerned, the state may deprive an individual of property only pursuant to the authority of law, that is, by an Ordinance or an Act of Parliament. The government’s failure to issue an Ordinance to extinguish its debt to the people thereby depriving them of their property impermissibly violates Article 300A.

“Public debts” are property and “the extinguishment of such a debt owing from the state amounts to compulsory acquisition of that debt”[3]. In Jayantilal Ratanchand v. RBI[4], in the context of the 1978 demonetization, the Supreme Court held that insofar as the demonetization wiped out the RBI’s debt to the bearer of notes declared illegal, it constituted compulsory acquisition of property. It is settled law that, state acquisition of private property is allowed provided the requirements of ‘public purpose’ and ‘compensation’ are satisfied. In arguendo, the demonetization had been sanctioned by an Ordinance, the validity is assured only after the investigation of the court, if it met a public purpose and whether those who were deprived of their property were reasonably compensated.

Thirdly the demonetization violates the fundamental right “to practice any profession or to carry on any occupation, trade or business[5]”, because of the hastiness and the resultant consequences. It cannot be claimed even by the government that only those with black money, fake currency notes or intent to aid terrorism are bound to suffer because of the notification. The government, of course, would rely on article 19(6), which says that nothing in Article 19(1)(g) shall affect the operation of any existing law in so far as it prevents the state from making any law imposing, in the interests of the general public, reasonable restrictions on the exercise of the rights conferred by the sub-clause. But the exception of article 19(6) is not available to the central government as the notification is beyond “police powers”.  The grounds cited cannot justify the adoption of extreme measures like invalidating 86% of printed currency in circulation overnight[6].

Fourthly, the demonetization also discriminates between holders and non-holders of bank accounts thus violating Art.14 of the constitution. Prior to the issuance of this overnight notification, the government failed to ensure that 100% of the population had bank accounts. Though the government may argue that such a classification is necessary to achieve their objectives, such the classification may be set about as arbitrary and violative of the right to equality under Article 14.

Lastly, it can be argued that issuing Rs 2000 currency notes clearly shows that it has no rational nexus with the object sought to be achieved by the demonetization.

[1] Section 22 of the Reserve Bank of India Act, 1934.

[2] Section 24(2)) of the Reserve Bank of India Act, 1934.

[3] Madan Mohan Pathak vs Union Of India & Ors 1978 AIR 803, 1978 SCR (3) 334.

[4] JT 1996 (7), 681 1996 SCALE (5)741.

[5] Article 19(1)(g) of Constitution of India.

[6] Five Reasons Why the Recent Demonetization May Be Legally Unsound,  20/11/2016 available at http://thewire.in/81325/demonetisation-legally-unsound/.

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