Impact of demonetization on Indian economy

IMPACT OF DEMONETIZATION  ON INDIA ECONOMY 

1) Effect on parallel Economy:

The removal of these 500 and 1000 notes and replacement of the same with new 500 and 2000: Rupee Notes is expected to 

 

- Remove black money from the economy as they will be blocked since the owners will not be in a position to deposit the same in the banks,

- Temporarily stall the circulation of large volume of counterfeit currency and 

- curb the funding for anti- social elements like smuggling, terrorism, espionage, etc.

2) Effect on Money Supply:

With the older 500 and 1000 Rupees notes being scrapped, until the new 500 and 2000 Rupees notes get widely circulated in the market, money supply is expected to reduce in the short run. To the extent that black money ( which is not counterfeit) does not re- enter the system, reserve money and hence money supply will decrease permanently. However gradually as the new notes get circulated in the market and mismatch gets corrected, money supply will pick up.

3) Effect on Demand:

The overall demand is expected to be affected to an extent. The demand in following areas is to be impacted particularly:

Consumer goods 

* Real Estate and Property 

*Gold and Luxury goods 

* Automobiles ( only to a certain limit)

All these mentioned sectors are expected to face certain moderation in demand from the consumer side. Owing to the significant amount of cash transaction involved in these sectors.

4) Effect on Price:

Price level is expected to be lowered due to moderation from demand side. This demand driven fall in prices could be understood as follows:

* Consumer goods: Prices are expected to fall only marginally due to moderation in demand as use of cards and cheques would compensate for some purchases.

* Real Estate and Property:  Prices in this sector are largely expected to fall, especially for sales of properties where major part of transaction is cash based, rather than based on banks transfer or cheque transactions. In the medium term, however the prices in this sector could regain some levels as developers rebalance their prices ( probably charging more on cheque payment).

5) Effect on various economic entities:

With cash transaction lowering in the short run, until the new notes are speared widely into circulation, certain sections of society could face short term disruptions in facilitation of their transactions. These sections are:

* Agriculture and related sector 

* Small traders

* SME

* Service sector 

* Household 

* Political parties 

* Professional like doctor, utility service provider, carpenter, etc.

* Retail outlets 

Care rating report " Economic consequence of demonetization of 500 and 1000 Rupee Notes" November 9, 2016.

6)  Effect on digital payment:

Roughly 1.2 crore more Indian started using digital wallets in a single week. The reach of mobile payments increased by 6% in the week of the announcement as compared to the previous week, to peak at the highest ever reach of 70% . Usage frequency also surged by 15%.

There are some 20 to 30 mobile payment / e-wallet companies in India the enrollment to them has leapfrogged post demonetization. The following are some of the numbers

Number of ATMs : 202,801

Number of POS : 1,461,672

Value of ATM transactions : Rs 2,199,618 million

Value of POS transactions: Rs 441,194 million

Number of Pay TM users : 158 million 

Number of e-wallets users :405 million 

Number of merchant registration Pay TM: -1,000,000

As we have seen from the above numbers, India is skipping plastic cards moving towards e-wallets. Hence it is not necessary to have the number of POS and ATMd to have a digital payment system. Simple payment systems such as e-wallets and other payment initiatives by government such as Unified payment System, which works on USSD technology, have the capacity to replace the need of more ATMd and POS machines. In just over one year, a single e-wallet company Pay TM has added 1 million merchant registrations which in turn is equivalent to POS for cards. Considering the market share of 39% for Pay TM we could deduct the total number of merchant registration with all the e-wallet companies put together to the tune of 2.5 million.

7) Effect on farmers:

The demonetization has been introduced during the Rabi sowing season, which would severely impede the farmers ability to buy seeds and plant hence would affect the food production. The appended table presents the data on Rabi sowing season which indicates the area has actually increased by about 9% in this season. Sowing season could not have registered any increase had there been any strain in the commercial transactions at rural levels.

8) Effect on food sector: 

Foods witnessed the highest increase in growth during the demonetization week at 19% vs. year- ago. Within the food basket, packaged grocery and cooking medium saw a big upswing. Tea, packaged Atta and rice, baby food, milk food and non- refined oil also contributed to the growth.

Impulse categories ( biscuits, chocolates salty snacks and confectionery) also grew, but at a much slower pace. Soft drinks ' slowed down significantly; however, the onset of winter could also be contributing to this slowdown.

Volume growth patterns in foods indicated a shift to bulk packs. Much of this could be driven by retailer private levels or the ongoing offers in the demonetization week.

Non- food sales grew as well, driven by personal care (17%in demonetization week vs. a 4.8% growth year - till- date before demonetization). All non- food categories including essentials like detergent powders and cakes, toothpaste, shampoo etc. saw a healthy double - digit growth ( despite demonetization falling right after the monthly shopping period).

Food categories received a mixed response with certain categories having witnessed positive tailwinds while other categories saw a dip in demand from retailers. Impulse food witnessed the steepest decline in demand, while cooking oil and packaged grocery saw an exorbitant demand from retailers on the back of the belief that consumers would prefer to stock up on essentials in wake of the cash crunch.

9) Elimination of fake and counterfeit currency:

Note : Assuming number of Rs 2 and Rs 5 notes to be equal 

The above table represents the fake currency detected and reported in the system during the last financial year, a point to be noted is that just three banks Axis, ICICI and HDFC reported 80% of such counterfeit notes, which implies that such notes are not detected fully in other banks. A date from Indiaspend reports that the only 6 out of every 250 fake currency is reported. Going by that percentage the estimated fake currency that would have been eliminated would be Rs 1.2 trillion.

Adding it up with anticipated 3.6 trillion black money, the total Counterfeit and black money that would have been eliminated would be Rs 4.7 trillion.

10) Effect on Gross Domestic Product:

Demonetization will have a " very significant adverse effect" on the country's GDP. It has been highly critical of demonetization decision and has predicted a 2% drop in the country's GDP due to it. Finance minister Arun Jaitley, responding to a question at a press conference on Wednesday, ruled out any short - term impact of demonetization on growth, holding that it will rather benefit growth in the long run because " all this will impact the size of the GDP itself because more translation that were happening outside the ( formal) economy will get into the economy itself".

Effect on Indian Currency: 

After demonetization on 8th November ' 2016 rupee has become weaker that currency of 96 countries out of 161 countries, rupee has become stronger that 60 countries and is at the same exchange rate with 5 countries.

If we take data of 6 months before demonetization from 8th May to 8th November '2016 rupee has become stronger than 125 correncies.

Rupee has become weaker by 2.66% against US Dollar from 66.40 to 68.17 INR per Unit US Dollar. Rupee has become weaker that British Pound,Canadian and Hong Kong Dollar, Pakistani, Srilanka, Nepalese rupee and Bangladeshi Take - But also become stronger that Australian and Singapore Dollar and Japanese Yen.

Table:-

        Period      |  Stronger |  Weaker | Same

* After 50 days 

of demonetiza     60            96            5

tion (08.11.2016

to 28. 12.2016)

* 6 month before 

demonetization    125         32            4

(08.05.2016 to 

08.11.2016)

Positive Effects:

* Drug trafficking, illegal dealing of money funding of election and involvement of various terrorist group effected badly.

* Step towards cash less economy, more digitalizations of economy 

*Real estate can can see significance course of correction 

* Less chance of avoiding tax

* Break down of black money 

*Increase in bank deposits - Jandhan Yojna of Government 

* People cleared their over dues because Govt. Provided a window of clearing the old dues by using the old currency (Demonetized)

Negative Effect:

* Cash shortage/ liquidity crisis people suffered to exchange it. 

* Dumping of Agricultural produce

* Drop in Industrial output 

*Queues outside the bank 

*People face difficulties in marriage occasions and other 

* Many of the people do not have their bank accounts in rural. Even after Jandhan Yojna taken by Government.

* Decrease in consumption due to cash shortage. Also feel difficulties to fulfill basic need of life as most of people depend on cash to meet their daily life necessary 

* Decrease in consumption due to cash shortage lead to less Economic activity and production 

* Decrease in GDP. Demonetization reduce consumption pattern, income and investment which directly affect the GDP of country.

* Small and marginal business sector suffered a lot 

* Large scale of lay off in unorganised sector. As labour are paid by cash, it is due to cash shortage