Demonetisation: Resolving the Legal Quandary

Recently, on 2 January 2023, the Supreme Court of India, through a five-judge constitution bench, settled the contentious legal issue of demonetisation that has been raging in the country since November 2016 by upholding its validity via a 4:1 majority. While doing so, the court had heard 58 petitions filed against the move of the Union government wherein more than 85% of the value of money held in notes of Rs 500 and Rs 1000 ceased to have the status of the legal tender awarded under Section 26(1) of the Reserve Bank of India Act, 1934. The proposed objectives behind this move were to cut terror financing and to check the menace of corruption. This exercise of power by the government was known as demonetisation. But what exactly is demonetisation? In simple terms, it can be termed as an act of replacing the old currency. This economic phenomenon is not a novel occurrence globally; even our country is not new to it. In India, on two previous occasions, namely, 1946 and 1978, demonetisation was implemented.

Legal Provisions for Introducing Demonetisation:

Section 26(2) of the Reserve Bank of India Act 1934 allows for the provision of demonetisation, although the word is not explicitly mentioned in the Act. This sub-section permits the Union government, upon the recommendations proposed by the Central Board of Directors of RBI, to cease the status of the legal tender of any series of bank notes of any denomination by issuing a notification in the Gazette of India. Here, it can be inferred that such a recommendation proposed by the Board of RBI is not binding on the Central government, and it may accept or reject such recommendations.

Apart from this, the seventh schedule of the Indian Constitution, which contains List I or the Union list, mentions provisions to regulate currency and the status of legal tender by way of Entry 36. The powers conferred under this list are meant to be exercised by the Parliament under Article 246. However, since the ruling government or coalition exercises domination over the Parliament, such function can be deemed exercised by the Central government. This can be achieved by enacting an Act of Parliament or, in certain circumstances, by issuing a Presidential Ordinance, which needs to be replaced again by a Legislative Act.

History of Demonetisation in India:

• 1946 Demonetisation:

On 12 January 1946, when India was still a British colony, the cessation of the ‘legal tender’ status of bank notes of denominations of Rs 500, Rs 1,000 and Rs 10,000 was done by issuance of High Denomination Bank Notes (Demonetisation) Ordinance, 1946 which was promulgated by Viscount Wavell, the then Governor General of India. This was done to control the menace of black marketeers that arose due to the Bengal Famine of 1943 and the excess profits that accrued to Indian businessmen as a result of World War II. Soon after the expiry of six months, questions arose over the transitory nature of the ordinance. In order to settle the legal lacuna and to avoid further litigation in this respect, the government moved an amendment to RBI Act 1934 and inserted Section 26A. This section explicitly declared that banknotes of certain denominations issued before 13 January 1946 would be barred from being used as a medium of exchange to settle legal obligations. So, it can be observed that, ultimately, an Amending Act was passed by Parliament in this respect to uphold the legal validity of the ordinance. Interestingly, the aforementioned amending Act was proposed to be repealed by the 250th Law Commission of India in October 2014 on the ground that it had served its legislative purpose.

• 1978 Demonetisation:

The second demonetisation exercise was undertaken 32 years after the first one in 1946. On 16 January 1978, during the regime of the Morarji Desai government under the Janata Party, a Presidential Ordinance was promulgated to demonetise currency notes of the denomination Rs 1000 and above. In the course of time, this was replaced by the High Denomination Bank Notes (Demonetisation) Act 1978. This act ran into some legal challenges, and its validity was challenged on the ground that RBI had a legal obligation under Section 34 of the RBI Act to exchange non-legal tender banknotes even after the time limit prescribed in the Demonetisation Act expired. This issue was resolved by the High Court of Delhi in Bimladevi v. Union of India, stating that the transfer of such notes was prohibited under Section 4 of the 1978 Act. Therefore, the obligation of the issue department of RBI under Section 34 ceased to exist after the period mentioned under the Act expired. Another writ petition under Article 32 was filed before the court in the case of Jayantilal Ratanchand Shah v Union of India clubbed with Devkumar Gopaldas Aggarwal and Ors. v Reserve Bank of India and Anr. The primary contention on behalf of the petitioners was that the Act violated Article 19(1)(f) and 31 of the Constitution (now repealed). The five-judge constitutional bench of the Supreme Court upheld the constitutional validity of the Act on the ground that the time and manner of exchanging banknotes prescribed under it were just and reasonable and did not violate any of the fundamental rights of the petitioner.

Present Context:

The latest case of demonetisation that the country witnessed was on 8 November 2016. The Ministry of Finance, by issuing a Gazette Notification, declared that banknotes of Rs 500 and Rs 1000 would cease to have the status of legal tender from the subsequent day, i.e., 9 November 2016. Further, the notification prescribed a period of 52 days for exchanging the old currency notes. Here, it can be observed that the method adopted this time was different from 1946 and 1978. Neither an ordinance was issued, nor any other legislative action was taken. This time an action was taken by way of a Gazette notification as proposed under Section 26(2) of the RBI Act, 1934. The impugned notification was challenged before various High courts in the country. Upon a transfer petition filed by the Union, the matters were transferred before the Supreme Court in the case of Vivek Narayan Sharma v Union of India. The three major issues of contention that can be clubbed together are:

1. If the impugned notification dated: 8 November 2016 was liable to be struck down on the grounds of a flawed decision-making process followed under Section 26(2) of the RBI Act 1934 
2. If the Impugned notification satisfied the test of proportionality 
3. If the interpretation of the word ‘any’ in the aforementioned sub-section can be construed to mean that the exercise of demonetisation can be exercised in respect of only ‘one’ or ‘some’ series of banknotes and not ‘all’ series and whether Section 26(2) should be held Ultra vires on the ground that it delegates excessive powers to the Central Government

Majority Opinion:

1. Several sets of evidences, including the Minutes of the 561st Meeting of the Central Board of directors of RBI dated: 8 November 2016, were produced before the bench. It was concluded that the purported exercise had a rational nexus with the object that it sought to achieve. Based on records submitted by the RBI and Union of India, the bench concluded that both parties actively considered the matter for six months, and the government had even directed the Board to prepare a draft mechanism for implementing demonetisation in a manner that is non-disruptive to the businesses and the general public. The majority judgement also focused on the presence of an appropriate quorum for the requisite meeting of the Central Board. Thus, the decision-making procedure cannot be termed as hasty and flawed. An attempt was made to ensure appropriate safeguards were present by providing a reasonable period of 52 days for getting the non-legal tender currency exchanged.

Additionally, it was held that the contention, that recommendation for demonetisation emanated from the Central government instead of the Central Board under Section 26(2) did not hold any ground, as the Central government and RBI were not expected to act independently in isolation in such a matter of economic significance. Thus, there was no breach of procedure.

1. For determining the validity of the impugned notification on the grounds of proportionality, it was subjected to a four-pronged test for determining its constitutional permissibility. The majority opinion mentioned that a proper purpose existed, i.e., curbing the menace of corruption and terror financing for which the exercise of demonetisation was undertaken. The Act also established a rational nexus with the objectives it sought to achieve. In this regard, the government also provided a relevant period of 52 days for exchanging the old notes; whatever limitations were imposed on the constitutional right should be seen through the lens of larger public interest.
2. The court also observed that giving a restrictive meaning to the word ‘any’ under Section 26(2) would lead to an anomalous situation. The bench noted that on previous two occasions, in 1946 and 1978, the government had exercised its power to demonetise all series of notes of a particular denomination and this time, it would not be appropriate to deny such exercise of power merely on the ground that such power was not exercised via plenary legislation but through the RBI Act.

Regarding the delegation of excessive powers, the bench upon perusal of the preamble, scheme and object of the RBI Act, held that sufficient guidance and safeguard were provided to avoid any misuse of power. The court noticed that the delegatee, which in this case was the central government, comprised of elected representatives of the people and was accountable to them.

 Minority Opinion:

• Justice BV Nagarathna gave the dissenting opinion. She stated that upon perusal of Section 26(2), the language of the section makes it clear that the proposal for recommending demonetisation should have originated from the Central Board of directors of RBI. However, in the present case, it arose from the centre. Thus, issuing a Gazette notification under the said subsection would be void. She had also voiced her concerns about the independent decision-making process of the RBI being vitiated as the bank merely concurred with the opinion of the Central government. With this ratio, she concluded that the subsequent Act of 2017 enacted for incorporating the impugned notification is also Ultra vires of the Constitution. She also suggested that instead of using powers under the RBI Act 1934, the government should have used its powers of plenary legislation as had been done on two previous occasions in 1946 and 1978.

• Regarding the interpretation of the word ‘any’ as mentioned under Sub-section (2) of Section 26, she had opined that the central government had the power to demonetise all series of banknotes of a particular denomination but that does not under the ambit of said, sub-section, as the recommendation for doing so did not arise from RBI. Instead, the government should have resorted to plenary legislation. On the aspect of Excessive delegation of powers, she held that the word ‘any’ could not be interpreted to mean ‘all’, thereby indicating that this question of delegating excessively did not arise in the first place.

Conclusion:

It can be said that the Reserve Bank of India is one of the essential statutory bodies vested with the obligations such as regulating the money supply and making decisions on monetary policy. Thus, it should be necessary for the government to consult with it on multifaceted grounds on matters related to economic policy. The latest exercise of demonetisation has no doubt been upheld by the Supreme Court, and all the judges, including Justice BV Nagarathna, agreed that the intentions behind the exercise were noble and needed to be seen in the interest of larger public welfare. However, if the desired objectives behind this exercise were achieved, it is still a question to be debated.