"India now operates under a monetary policy regime known as inflation targeting. If a portion of the stock of currency in circulation, consisting of currency and demand deposits gets 'burned', metaphorically or literally, the Reserve Bank of India, the central bank, can in principle fully offset this through what economists call 'open market operations.
These involve purchasing bonds from the markets and injecting money (and therefore liquidity) into the markets in return. This is standard operating procedure for central banks.
There will be short run adjustment costs as the old notes are replaced by new ones, but I see no medium to long term impacts on growth, inflation or other pertinent macroeconomic variables.
The gains will be a one-time tax on black money and a possible disincentive for future black money accumulation, in the event that there is a prospect for future demonetisations."
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