Demonetization

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Definition of Demonetization:

Demonetization occurs when a government declares a unit of currency is no longer legal tender. For example, if the US government declared that the twenty dollar bill is no longer acceptable as money, the twenty dollar bill would be demonetized. 

Detailed Explanation:

Most countries have legal tender, which means their currency represents a value declared by the government – even though the paper or coins used as currency is worth far less than the accepted value. Occasionally governments will choose to take currency out of circulation and declare them no longer acceptable as money. Governments do this for a variety of reasons. Countries in the European Union demonetized their currencies when they accepted the euro as their currency on January 1, 1999. Citizens of the eleven original countries were allowed to exchange their currencies over a period to enable a smooth transition. The objective was to facilitate trade among the European Union by eliminating the risks of fluctuating exchange rates.

In 2008, inflation in Zimbabwe hit 231,000,000 percent. Imagine a candy bar that cost $1.00 in 2007 costing $2,310,000 one year later! People stopped using their money. Bartering became the norm. When they did pay with money, the currency of choice was the American dollar. Fortunately, Zimbabwe’s inflation is more under control, and the country has begun to emerge from the devastation caused by hyperinflation. On June 15, 2015, the government announced it would demonetize the Zimbabwe dollar. Read a summary of the demonetization in Jonathan Garber’s article that appeared in Business Insider on June 11, 2015.

Demonetization in India

On November 8, 2016, Prime Minister Modi of India shocked his nation by suddenly announcing the immediate demonetization of the 500 and 1,000 rupee notes. These notes represented 86 percent of the currency in a cash driven economy! Citizens were told to redeem or deposit their notes at a bank. The Prime Minister’s objective is to increase tax revenue, fight crime, and reduce corruption. The underground economy has been estimated to equal 50 percent of India’s gross domestic product. Cash payments help workers and the underground economy avoid taxes. Tax revenues have increased since the program was implemented.

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