Modeling Currency Flow in an Economy: The Case of India’s Demonetization in 2016

Abstract

The 2016-2017 economic event of a sudden demonetization in India can provide an empirical example in which to test the validity of some schools of monetary theory, particularly the Chartalist School. The Chartalist School distinguished three kinds of money: Fiat, Commodity, and Managed Money. The event provided empirical evidence that this distinction between currencies in an economy is valid and important. The sudden withdrawal of Fiat money immediately decreased the amount of commodity money, creating an economic crisis in local Indian commerce. Managed money, as bank accounts, was unable to fill the temporary gap in the supply of money because a large portion of the Indian population did not have bank accounts. Also the government did not supply a sufficient number of new 500 and 2000 rupee notes to quickly replace the withdrawn 500 and 1000 rupee notes.