To What Extent is Demonetisation Legal?

The longer the government takes to restore normalcy in the cash and informal economy, the more difficult it will be for it to justify demonetisation.

A security guard closes the shutter of State Bank of India ATM after it stopped dispensing cash in Agartala, India, November 15, 2016. Credit:Jayanta Dey/Reuters

A security guard closes the shutter of State Bank of India ATM after it stopped dispensing cash in Agartala, India, November 15, 2016. Credit:Jayanta Dey/Reuters

While the economic consequences of demonetisation have been extensively debated, the legal issues need more considered deliberation. Significantly, demonetisation has already been challenged in many high courts and in the Supreme Court. The government has relied upon section 26(2) of the RBI Act for its action, which gives it the power to declare – on the recommendation of RBI’s central board – that any series of bank notes, of any denomination, shall cease to be legal tender through a gazette notification. Among other things, the petition before the Supreme Court has challenged the constitutionality of Section 26(2) of the RBI Act on grounds of ‘excessive delegation’. If the legislature excessively delegates its legislative function to any other authority, such delegation is unconstitutional. However, currently, Section 26(2) is a constitutionally valid law till proven otherwise. But is the government’s demonetisation action consistent with Section 26(2) and the constitutional provisions? 

Consistency with Section 26(2)

The plain language of Section 26(2) of the Act shows that the government can demonetise through a notification, even if in the past, like in 1978, demonetisation was done through an ordinance. The core issue is whether the government can declare that ‘all’ banknotes of one or more denominations shall cease to be legal tender. This depends on how one interprets the word ‘series’ and ‘any’ in Section 26(2). Since the RBI Act does not define the word ‘series’, it is unclear whether ‘series’ in Section 26(2) refers to the broader category of the ‘Mahatma Gandhi series’ of banknotes that the RBI launched in 1996 – and has since been replaced by the Mahatma Gandhi (new) series from November 9 – or whether ‘series’ refers to the narrower category of different serial numbers with different inset letters printed on the banknotes. If ‘series’ refers to the broader category, then the government’s notification does not pose any problem because ‘any’ surely includes within its ambit ‘one’. However, if ‘series’ refers to the narrower category, then it means that till November 8, there were multiple series of banknotes and thus, the government’s notification would be legal only if ‘any’ in Section 26 (2), means ‘every’.

To answer whether ‘any’ in Section 26(2) means ‘every’, it would be useful see how the Supreme Court has interpreted the word ‘any’ in other statutes. The Supreme Court in a number of cases has interpreted the word ‘any’ to mean ‘every’, based on the context and the subject matter of the statute. For example, the apex court in Shiekh Mohd v Collector of Customs, interpreted ‘any prohibition’ in Section 111(d) of the Customs Act to mean ‘every prohibition’. Similarly, in Lucknow Development Authority v M K Guptathe apex court interpreted ‘service of any description’ in section 2(o) of the Consumer Protection Act 1986 to mean service of ‘every’ description.

The context and the subject matter of the RBI Act gives the RBI the sole authority to operate the country’s currency and credit system. It gives the RBI the sole right to issue banknotes (Section 22) and gives power to the central government and the RBI to decide on the non-issuance of banknotes (Section 24(2)). These powers extend to all banknotes and not just for some banknotes. Therefore, the power of the RBI and the central government to decide the legal tender status of banknotes should also extend to ‘every’ or ‘all’ series of banknotes and not just to ‘some’ or ‘one’ series. Consequently, demonetisation of all Rs 500 and Rs 1000 banknotes is consistent with Section 26(2), provided that the government is able to demonstrate that this was done based on a recommendation made by the RBI’s central board of directors.

Restriction on cash withdrawals

As part of demonetisation, a withdrawal limit of Rs 24,000 per week has been imposed on each bank account and a limit of Rs 2,500 on debit card withdrawals per day. Is there any legal basis to impose such restrictions? Ordinarily, such restrictions cannot be imposed. However, the current situation is different. It was obvious that scrapping the legal status of 86% of the available cash will result in a cash crunch. If the government has the power to declare that banknotes shall cease to be legal tender under Section 26(2), then it should also have the power to do other necessary things to make demonetisation work. Therefore, imposing these restrictions, in one way, is inseparable from the government’s action under Section 26(2). To argue otherwise would render the government’s power under Section 26(2) meaningless. These restrictions can also be justified under Section 35-A of the Banking Regulation Act, 1949, which empowers the RBI to issue directions to banks in public interest to ensure that the interests of depositors are not compromised. Given the cash crunch, these restrictions will ensure that all depositors are able to access some cash for their basic needs. Nevertheless, questions can be posed about how reasonable these restrictions are. The longer these restrictions continue the stronger will be the argument that they are unreasonable.

Violation of right to property

Has scrapping the legal status of a currency note, which is movable property, violated the right to property of a note holder? Article 300A of the constitution provides: no person shall be deprived of his property save by the authority of law. ‘Law’ here not only means parliamentary and state legislations, but also a rule, or an order backed by law. This question can be answered by dividing it into two parts. The first part is whether the acquisition or expropriation of private property is compulsory. As the Supreme Court held in Jayantilal Shah v RBI (1996) – where the legality of the Demonetisation Act 1978 was challenged – the government’s demonetisation wipes out public debt owed to note holders of such denominations. Consequently, it amounts to a compulsory acquisition of private property by the state.

State acquisition of private property is allowed provided the requirements of ‘public purpose’ and ‘compensation’ are satisfied. This leads us to the second part where the validity of these criteria must be determined in the present context. Demonetisation meets the requirement of ‘public interest’ since it has been done to tackle counterfeit notes, nullify black money hoarded in cash and is meant to curb funds for terrorism with fake notes. It also meets the requirement of ‘compensation’ for those note holders who have a bank account. For those having a bank account, notes worth Rs 2,000 could be exchanged for an equal value in notes having legal tender up to November 24 and anything additional can be credited to the individual’s bank account. It was on these two grounds that the Demonetisation Act, 1978 was upheld in Jayantilal Shah v RBI.

However, the ‘compensation’ requirement is not satisfied for those who do not have a bank account and hold scrapped notes in excess of Rs 2,000. Such note holders had the opportunity to exchange notes worth Rs 2,000 till November 24. Thereafter, this facility is available only at the RBI. So, what happens if a person has old notes even after November 24? The notification is silent on this regard. Thus, the only conclusion that can be reached is that any cash in excess of Rs 2,000 stands expropriated by the state unless these individuals open a bank account to deposit this cash. Does this violate the fundamental right to personal liberty by forcing people into opening bank accounts? Therefore the central question that needs answering is whether demonetisation infringes the constitutional right to property by not providing any criteria for compensating those note holders who do not have bank accounts.

Fundamental right to freedom of trade and occupation

Another critical question is whether demonetisation violates the fundamental right to trade – an occupation guaranteed by Article 19(1)(g) of the constitution. Article 19(1)(g) has been comprehensively interpreted to include, as was said in Sodan Singh v NDMC , “all avenues and modes through which a [person] may earn [his/her] livelihood”. It is evident that demonetisation and the subsequent cash crunch has adversely impacted the livelihood of many, especially those who are heavily dependent on cash and are not part of the formal banking system. The violation of this fundamental right can only be excused if the restriction imposed on this fundamental right is not just in public interest but is also reasonable. The restriction should not be arbitrary or of an excessive nature beyond what is required for public interest. Therefore, are the restrictions imposed in terms of usage of cash – especially on those who are heavily dependent on notes for their trade and occupation and are yet to become an integral part of the banking system – more burdensome than the public purpose sought to be achieved? The longer the government takes to restore normalcy for the cash and informal economy, the stronger will be the argument that the restriction is unreasonable.

It will be interesting to see how the apex court addresses these legal questions especially the constitutionality of Section 26(2) of the RBI Act. The apex court’s interpretation would be useful not just from the legal point of view, but also from the point of view of setting a precedent for any future demonetisation that any future government may contemplate.

Prabhash Ranjan is an assistant professor of law at South Asian University.