India Prime Minister Narendra Modi stunned the country on Nov. 8 by announcing that 500-rupee ($7.30) and 1,000-rupee notes, which account for more than 85 percent of the money supply, would cease to be legal tender immediately. The announcement set off days of turmoil as millions of Indians tried to swap their suddenly worthless old notes for hard-to-find new notes of 500 and 2,000 rupees or older ones in smaller denominations. On Nov. 17 the central bank tried, with little effect, to reassure the nation that the situation was under control. “There is sufficient supply of notes,” the Reserve Bank of India said in a statement. “Members of the public are requested not to panic.”

Modi’s action is aimed squarely at the cash-driven shadow economy, which accounts for about 25 percent of gross domestic product. Fewer than 5 percent of all Indians file tax returns. Many shop owners use cash for their transactions and don’t declare their income. Wealthy Indians often avoid taxes by paying cash for property and jewelry. Those businesses “are where black money is hidden,” says Capital Economics economist Shilan Shah. With so much money going untaxed, Indian governments have had difficulty funding infrastructure projects and other public spending.

Queueing up to deposit and exchange discontinued currency at a bank on Nov. 17.
Queueing up to deposit and exchange discontinued currency at a bank on Nov. 17. Photographer: Gurpreet Singh/Hindustan Times/Getty Images

Tax officials will get reports on cash deposits in excess of 250,000 rupees and compare those deposits with income disclosures. The authorities can demand a tax payment and impose a penalty equal to 200 percent of the tax owed. The government estimates that as much as 5 trillion out of 15 trillion rupees will remain unredeemed as tax evaders unwilling to risk detection accept large losses.

As cash disappears, so does economic activity. For three decades, Ashok Kumar has been a trader at Azadpur Mandi, Delhi’s largest fruit and vegetable market, where much of the buying and selling involves the now-banned notes. Since Modi’s announcement, Kumar says, cash transactions have nearly stopped. “We are sitting almost idle,” he says. “There are no buyers.”

On Highway 24 between New Delhi and the town of Dadri, gas stations are empty and trucks stranded. Drivers spend their days playing cards, unable to operate their vehicles because transport company owners can’t get the cash to buy fuel or pay the drivers their 100-rupee daily food allowance. “There’s no work,” says Sundar Singh, a 38-year-old truck driver from Aligarh, a city about 90 miles southeast of Delhi. “I can’t even charge my cell phone,” he says, because he doesn’t have any change. To ease some of the pain, the Finance Ministry on Nov. 21 said farmers could use old 500-rupee notes to buy seeds for winter-sown crops from state-owned stores.