Demonetization

By

SandeepBhargav

Introduction• Withdrawing high denomination currency notes [demonetization] has

been done before [1946, 1978].

• However, I believe the present move [2016] might have a bigger impact than the one done by British India and Morarji Desai.

• This is a move many have been dreaming for years and glad that it was done.

Cont…• The fact that the government was able to do this so secretly in such a

connected manner speaks volumes. • Indira Gandhi tried this in early 1970s, but could not as the move

leaked out and the bad guys quickly changed over the notes. • The government had to back out of the move then. I’m even thinking

if the move to ban NDTV was just a ploy to distract the whole media, to pull this off. • And it was possibly scheduled on US election day likely to get the

global media off the heat and attention, as foreign media has been ultra critical & condescending of any major move in India.

There are 5 key incentives for this:• Bringing out illicit money sloshed stashed in the parallel economy

• Having a lid on the fake money racket supported by our western neighbor

• Incentivizing India to go cashless. The banks would not hand you wads of the new cash, but will just credit the money to your bank account in place of your old currency.

• Moving the notes to a more secure standard - with better protection against counterfeiting.

• Curbing inflation in real estate and reducing gold imports.

Impact of the move1. Black Money & corruption: The impact on black money usage will be temporary as those would eventually move to the new Rs. 2000 notes in time. Also, a lot of the black money lies in real estate, gold and other physical things. Still even a temporary, small impact on this sector is better than nothing. The mere fear of government taking out your black money is good enough. That the government could so secretly do this will increase the fear.

2. Elections: Especially with the major elections barely weeks away, the move would impact politics in the crucial states. My guess is that the government waited for the Diwali to pass [will be a huge pain for many to have this move before the festival] and do it reasonably before the elections [EC could throw a spanner on any major move just before the elections]. Thus, unlike the previous occasions, the government didn’t do this on January 16. It could have impact on corruption in those elections and it is a way of the government saying, “Maha Gathbandhan, Check”.

3. Counterfeiting: The impact on the counterfeit notes would be more significant. Many “dealers” with the existing counterfeit notes would be stuck as they would have to take the notes to the bank and have better chances of getting their racket exposed. Thus, they are more likely to destroy their notes and incur losses. Losses to the bad guys is good and maybe some of them could get shot unable to pay their debts. It would be quite hard to counterfeit the new currency and until they develop the technology for that, there will be an impact on counterfeit notes and terrorism that is funded through that.4. Cashless society. All of the above things are temporary things. But, I believe the long lasting one could be in moving cashless. The pain of transferring cash could incentivize many to think about going bits and plastic. Today could be a day to introspect for the legal users of the currency. That could have a more significant impact on counterfeiting and unaccounted money.

Cont..5. Gold/silver. In the short term, gold and silver buying will be hampered, as a lot of the buyers buy with their black money. That means less importing. Over the long term, there might be more purchase of gold as the black money guys will be afraid to hold too much cash.6. Real Estate. In the short term, prices of real estate would come down for the same reason above. There will be less suitcases moving. It is not clear what would happen to this sector in the long term. Maybe there could be a little more land buying, but that could be neutralized by the spiraling down of the prices that could go now.

Cont..7. Markets. This is overall a positive move that is lauded by a lot of people and could bring more confidence in Indian markets by overseas investors. However, the exit of black money temporarily could cause other repercussions in buying. I would not be surprised if the market goes a bit down in the short and medium term.8. Overseas Indians. There is a lot of INR that gets transacted outside of India. Technically it is illegal [NRIs, foreigners can’t leave with rupee], but there are not many practical alternatives. They would be impacted as they cannot change the money to the new notes quickly and those overseas currency trading markets on rupee would be impacted [UAE money exchanges won’t accept notes in India recall]. Some of these transactions are good ones that improve the economy, while others might help Dawood bhai like ones.

Cont..9. Banking to all: The government’s key objective is to bring banking to all and this will help that. If you have more than Rs. 4000, the bank will not give you new notes, but will just ask you to open an account and credit it there. This when followed with the fees on ATM transactions will make it harder to transact on cash.10. Consumption and economy: This is one thing I believe it is going to be negative. Black money drives a lot of the economy and now that it is gone, it will impact consumption levels. There could be a deflation and damp economic growth for a couple of quarters. In the long run it doesn’t matter though.

Cont..• Think about this. India’s total tangible wealth is of the order of 280

lakh crores.• World bank estimates at least a quarter of this is black. That means

70 lakh crores.• It is possible that 10% of it is in cash, with the rest in real estate and

gold.• That is 7 lakh crores of black cash that is lying around. Maybe 80% of

it will turn white and even with that Rs 1.4 lakh crores of black will be gone.• That is big.

Digital Payments

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