Law And Legitimacy: Reform Through Demonetization In India

By: Natansh Jain


On November 8, 2016, Prime Minister Narendra Modi made a public announcement that the government is withdrawing the 1000 and 500 rupees note from the economy. This move came as a blow to the citizens as the highest and the second highest bank notes were suddenly being demonetised within four hours of the announcement. Since then, there have been a lot of hue and cry among both the common man and the experts on the issue. Many people have even challenged the legality of such a move by the government. Madras High Court dismissed a petition saying that “demonetization is good for India”. This article aims to prove that the ‘Demonetization (the one carried out recently in India) is legal but not legitimate’.


The Government carried out demonetization under Section 26(2) of the Reserve Bank of India Act, 1934 (hereinafter ‘Act’) which empowers “the Union Government on the recommendation of Central Board to declare that any notes issue by the Reserve Bank will no longer be legal tender.”[1] The announcement was made after an official gazette notification by the government. However, what is being criticized here is the legitimacy and not the legality of this move.

According to the government, this move has been taken mainly for three purposes: Controlling the unaccounted money (black money); creating a digital culture by encouraging electronic payment mechanisms; and getting rid of the fake currency notes flourishing in the economy.[2] Now, the legitimacy of the demonetization can be challenged using the arguments of rationality, application of the law and certainty. The intentions of the government in taking this move seem to be all good. However, according to Peter G. Stillman, in order to find out the legitimacy of a government order, “the actual and not the intended results of the government order should be considered.”[3]

For a governmental order to be considered legitimate, it has to be compatible with the conditions of a particular system.[4] An economic system is not an exception to this ‘system’. As mentioned above, one of the purposes behind the demonetization is to control the black money. According to the statistics, only 6% of the total black money is held in cash in the country.[5] The rest is present in the form of gold reserves, foreign accounts, shares, real estate etc. Therefore, the move to demonetize the currency is not compatible with the Indian economic system as of now.

Similarly, this can also be criticised on the basis of rationality. Weber had suggested that if at all there has to be a connection between legality and legitimacy, it would be out of the particular kind of rationality inherent in the legal order.[6] According to Habermas, the legitimacy of laws should be rejected or accepted on rational grounds.[7] Further, rationality has been classified into four types: practical, theoretical, substantive and formal.[8] The rationality related to demonetization is the formal rationality. Formal rationality relates to those spheres of life which have acquired delineated and specific boundaries, most significantly the economic and scientific spheres of life.[9] According to a recent study, even if all the black money in the form of 500 and 1000 rupees notes is deposited in the bank, it will be a mere recovery of just 12% of the total black money leaving untouched the 88% held in the form of other assets.[10]

The second purpose behind the demonetisation is to encourage cashless transactions also lacks rationality. In a country where only 53% of the adult population has bank account and out of which only 39% of them own a debit/credit card, the demonetisation does not seem to be a rational way of encouraging the digital payments in the country.[11] Moreover, India does not have an infrastructure present right now in order to facilitate such an advent into the cashless economy. According to an estimate, only 1.2 million out of 14 million merchants have Point of Sales (POS) devices to carry out cashless transactions.[12] The digital literacy is very poor, especially in the rural areas.[13] Also, more than 85% of the workers who work in informal sectors are paid in cash on a daily/ monthly basis.[14]

The fake currency argument also lacks this rationality because according to a study done by Indian Statistical Institute of India, Kolkata, the day when the demonetization was announced, around 400 crore of fake currency was in circulation which is a mere 0.025% of the total currency in circulation.[15] Moreover, the total cost of the printing the notes which have been demonetized now amounts to nearly 1200 crore rupees.[16] Therefore, it does not seem rational at all to drive out rupees 1200 crore in order to get rid of the fake currency of rupees 400 crores.

The rationality behind demonetization is further affected due to the opportunity cost associated with it. The huge man force which would have done some productive work otherwise had to stand in bank queue for getting the currency exchanged. After discussing the irrationality of the said move, I would like to argue the illegitimacy of the demonetisation on the basis of its application.

According to Habermas, if a positive law is to possess any claim to legitimacy, it depends on its application and not on the content of the law. In his book, ‘The Theory of Communicative Action’, he has answered to the question “How legal domination can be legitimised at all?”[17] He says it can be done through procedural legitimation. It means by keeping to procedural prescriptions in administering, applying and enacting law. There is no illegitimate claim to the content of section 26(2) of Act which authorises the Central Government to carry out demonetization. But the illegitimacy lies in the way it was done in the instant case. The section just authorises the government to carry out demonetisation. It does not prescribe the manner in which it has to be done. It is the duty of the government to do the same in a legitimate manner. Unfortunately, the government has failed to do so in this case.

The decision to implement section 26(2) of the Act seems to be taken in a very hasty manner without any proper planning. The measure of this wide implication requires comprehensive planning, infrastructural support and full preparation to deal with the disruptions in a smooth manner. The government lacked all of these in the instant application of the law. With a bit of planning, much of the chaos could have been prevented. It turns out that the new currency notes are smaller in size. It requires the country’s ATMs to be reconfigured which would have taken around 45 days.[18] Due to demonetization, some 22 billion notes have been rendered affected but according to the previous finance minister, the printing capacity amounts to just 3 billion per month.[19] The banks were ill- prepared to handle about 8.5 trillion rupees in the form of deposits which happened within the three weeks after the step was taken.[20] There are around 2 lakh ATMs across the country but half of them are not functional. [21]

The effect is much worse in rural areas. Before taking this move, the government did not prepare to link the unbanked villages with the banks or some other ad hoc similar arrangements to facilitate the deposit and exchange of the old currency notes. According to a December 2015 Reserve Bank of India report on “Financial Inclusion in India”, each rural bank branch serves 12,863 people.[22] It is a huge number to effectively implement section 26(2) of the Act in the rural areas. The rural areas do not even have ATMs installed and people have to go to the nearby towns and cities to withdraw money which further affects the exchange and deposit.

Apart from all this, the lack of planning is clearly visible with the frequent changes in regulations that the government has made in the aftermath of the declaration of demonetization. The government has not been able to provide a uniform mechanism of rules and regulations with regard to the exchange and deposit of the notes. There have been orders passed in a very inconsistent manner which vehemently lacks certainty. The time lag in the replacement of demonetized currency provides the offenders with the opportunity to plan their ways out of the terror, if any, cast upon them.


There does not seem any impending exigency to justify the hasty manner in which the content of section 26(2) of the Act was implemented. The implementation should have been done after the government was better prepared and assured that it is the most appropriate measure to deal with the problem of black money. The disruptions that have taken place were reasonably foreseeable on account of ill-preparation. A legitimate act requires justification. According to Habermas, “modern law needs to restage a justification”.[23] Perhaps the worst part is that even after all of this, the government does not seem likely to achieve its stated goals of the implementation of demonetization. Therefore, it can be safely concluded that the demonetization, though done with good intentions, is not legitimate as it lacks the rationality and the proper application of the law.

[1] The Reserve Bank of India Act 1935, s 26(2).

[2] Press Release, ‘Government of India Ministry of Finance Department of Economic Affairs’ (Ministry of Finance) <; 24 December 2016.

[3] Peter G Stillman, ‘The Concept of Legitimacy’ Palgrave Macmillan Journal 11 (1974).

[4] ibid 12.

[5] Why Government’s Demonetization Move May Fail to Win War Against Black Money, Hindustan Times (November 12, 2016) <> accessed on 26 December 2016.

[6] David Dyzenhaus, ‘The Legitimacy of Legality’ 46(1)  The University of Toronto Law Journal 10 (1996).

[7] Deborah Cook, ‘Legitimacy and Political Violence: A Habermasian Perspective’ 30(3) Journal Of Social Justice 5 (2003).

[8] Stephen Karlberg, ‘Max Weber’s Type of Rationality’ 85(5) The American Journal of Sociology 15 (1980).

[9] ibid.

[10] Dr TS Somashekhar, ‘Demonetization Article’ <> accessed on 26 December 2016.

[11] In India Bank Account Penetration Surges But  Majority Dormant’, The Indian Express (India, 10 November 2015) <; accessed on 28 December 2016.

[12] ‘Why Cash is Still King for Indian Consumers’, (Live Mint, 20 April 2016)  <> accessed on 25 December 2016.

[13] PTI, ‘Government to Launch Scheme for Digital Literacy in Rural Areas’ The Hindu (29 February 2016) <> accessed on 23 December 2016.

[14] ibid.

[15] Apoorva Pathak, ‘Demonetization Move is a Disaster’ (The Huffington Post, 11 November 2016) <> accessed on 29 December 2016.

[16] ibid.

[17] Jurgen Habermas, ‘The Theory of Communicative Action’ Volume I 264 (1995).

[18] ‘India’s Currency Reform Was Botched in Execution’ (The Economist, 3 December 2016) <> accessed on 29 December 2016.

[19] ibid.

[20] ibid.

[21] Mahesh Vijapurkar, ‘Demonetization has Turned into Chaos’ (First Post, 17 November 20116) <> accessed on 22 December 2016.

[22] Anil Sasi & P Vaidyanathan Iyer, ‘Demonetization Effect’ Indian Express (New Delhi, 21 November 2016) <; accessed on 28 December 2016.

[23] Habermas (n 17).

(Natansh is currently a student at National Law School of India University, Bengaluru.)