Legal Tender

Reviewed by Annapoorna | Updated on Jul 30, 2021

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Introduction

Demonetisation announced in 2016 had led to a medium-term cash paucity across India. The Central Government withdrew the erstwhile Rs 500 and Rs 1000 currency notes as a legal tender. It's not the first instance since India has demonetised ₹10,000 notes on two occasions, in 1946 and 1978. So, it becomes crucial to know what is legal tender in India and what is the impact of its withdrawal on the economy.

'Legal tender' is the valid money used for payment of the debt and also recognised by the law of the land. It should be accepted for the discharge of debt. The central bank has the sole right to issue banknotes as empowered by the RBI Act of 1934. The provision states that "every banknote shall be legal tender at any place in India in payment for the amount expressed therein".

Legal tender can be either limited or unlimited. In India, while the coins are limited legal tender, the currency notes are unlimited legal tender. Accordingly, 50 paise coins can be used as the legal tender for dues up to Rs 10. Further, smaller coins may be used for clearing dues up to one rupee. Currency notes can be offered as payment for dues of any size.

Public or citizens of a country can accept a piece of paper to be recognised as a medium of exchange and value without questioning its acceptance only when it's a legal tender.

A command by the central authority can only ensure that such currency notes in paper-form can be declared as 'legal tender'. India's central bank, i.e. Reserve Bank of India (RBI), or the central government promises an equivalent sum of money on presenting the currency note to 'pay the bearer'.

It is essential to know the consequences of cancelling the legal tender status of a particular currency note or coin. It is because the paper money gets its value from the government's recognition of it. Unlike gold which still holds value as per tradition despite a government declaring it worthless, currency notes function differently.

A piece of paper can get its value only if the government or the central bank declares it to be legal tender. Accordingly, the withdrawal of legal tender nature of a currency can impact the personal finances of the citizens too. For a short-term, it may hamper the smooth flow of day-to-day business as well.

Currently, the currency notes in the denominations of Rs.5, Rs.10, Rs.20, Rs.50, Rs.100, Rs.500 and Rs.2,000 in Mahatma Gandhi series are currently in circulation. Further, the coins of 50 paise, Rs 1, Rs 2, Rs 5 and Rs 10 denomination of various sizes, theme and design are in circulation.

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