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One year on, it is clear demonetisation was an audacious move

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Shweta Punj
Shweta PunjNov 08, 2017 | 09:31

One year on, it is clear demonetisation was an audacious move

In 2016, November 8 was an unusually frantic day at North Block, the grand red-stone building that houses the ministry of finance, just a stone's throw from the Rashtrapati Bhavan and bang opposite the South Block, which is home to the Prime Minister's Office.

Because a select group of senior ministry bureaucrats went about finalising press notes and notifications for the big announcement that was to be made in the evening, after the cabinet meeting. That day the cabinet meeting also started later than usual and finished at about 7pm, after which the president was briefed on the decision to demonetise nearly 86 per cent of India's currency, as a former finance minister, what the then President, Pranab Mukherjee said is anybody's guess.

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But within minutes the prime minister was on-air making the historic announcement of freezing a major chunk of India's currency and with that he pressed the reset button on the Indian economy.

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While the vision and grit to implement a decision of this magnitude came from the prime minister, preparations were on for months. Notes were getting printed and stocked. The Reserve Bank of India, Prime Minister's Office and the finance minister, including his core team of bureaucrats, were the only ones in the know of this decision. Reportedly no other Cabinet minister had been informed, because secrecy, say those closely associated with the policy move, was key to its success.

How would history judge demonetisation? A move that got Indians lining up for their own hard earned money, people living in far-flung areas with little or no access to ATMs went without cash for days or had to spend days walking to and fro from ATM machines far away and often returning with no cash.

A year on, it seems that the initial pain and pangs of demonetisation seem to have faded, even as economists say that India should brace up for even lower growth numbers when the revised estimates are released. India's GDP growth slumped to a three-year-low of 5.7 per cent of 5.7 per cent during the April-June period.

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"The GDP numbers reflect the activity in the formal sector, when the informal sector is taken into account, the growth numbers will be much lower for two quarters at least on account of demonetisation," says a Mumbai-based economist. However, finance minister Arun Jaitley rebuts the argument citing the remonetisation process and if the distress was severe, he says, it would have been reflected in some sort of social outrage and the fact that agricultural output increased in the quarter during which demonetisation was announced.

Those associated with the decision of demonetisation and the process of remonetisation say there were four stated objectives of demonetisation - to hit out at black money; counterfeit currency; weed out corruption and formalise the economy and use of digital modes of payment, lowering the use of cash.

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On the digital modes of transaction, demonetisation could be termed as a partial success, use of digital forms of payment shot up as an immediate consequence by as much as 300 per cent in the first few weeks post demonetisation. But after the initial push, growth of digital payments has petered out. According to RBI provisional data, transactions through digital means rose 13.5 per cent to Rs 124.69 trillion in September from Rs 109.82 trillion in August.

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Since December, volumes of Unique Payment Interface system launched by the National Payments Corporation of India have grown more than tenfold. Debit and credit card usage at point-of-sale declined in value and volume. The volume of transactions fell 5.7 per cent in the month of September from August to 229.2 million transactions from 243 million transactions. However, penetration of POS (point of sale) machines nearly doubled, which, until a year ago, was a big concern. Adding to the government's effort is a massive push from private sector banks to increase digital payment solutions, all private banks have dedicated teams geared towards digital payment solutions.

On the second stated objective of curbing the stock and flow of black money, the fact that nearly all the money came back into the system means that there has not been any successful unearthing of black money and from that perspective demonetisation could be termed as a failure. However, to gauge its impact on flow of black money, a sector wise analysis is prudent. Real estate as a sector is going through a painful slowdown because of a combination of two policy moves - demonetisation and Real Estate Regulatory Act. Both moves targeted at cleaning up a sector notorious for its opacity and free flow of black money. Real estate brokers in New Delhi tell India Today that there has been a sharp turn in the sentiment - givers and takers of black money in real estate deals have shown a sharp decline but it is also true that cash is making a comeback. In fact there is a change in rentals as well - cash component of rentals is getting replaced with cheque payments. "There is a clear sense of fear that you are being watched," says a policymaker.

In defence of the argument of all the money making its way back to the system, finance ministry officials say that the money deposited in the banks cannot be termed as white. "It is no more free floating cash. A trail has been established. Cash has lost its anonymity and the IT department will be using big data to pursue the trail."

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Economists say that growth in tax revenue could be attributed to better compliance with the government's crackdown on black money. Tax revenue to the central government rose 18 per cent to Rs 17.1 trillion in the year that ended March 31 with steady growth in direct taxes and a sharp jump in excise and service tax receipts. There was a growth in tax revenues despite the economy slowing to 7.1 per cent, while excise duty collection rose 33.9 per cent and service tax collection rose 20.2 per cent.

But beyond the impact of demonetisation on real estate, jewellery sector and tax collections, policy economists say that demonetisation also laid the foundation for other anti-corruption measures such as the bankruptcy code, crackdown on shell companies which deposited high value notes during demonetisation, deregistration of over 200,000 companies and restricting their bank accounts, Real Estate Regulation and Development Act which, along with demonetisation and GST has played a substantial role in reducing speculative buying among investors.

But anecdotally speaking and according to the cash drawdown data, cash in the system is at the pre-demonetisation levels. "There was a fear instilled in people but the shock effect lasted only for one year. Cash is back and part of the slowdown was because of demonetisation, so was it worth the trouble?" laments a Mumbai-based economist.

Those associated with the government defend the move, saying: "Overall, we have made a big shift towards formalisation and that impact of long term change should not be undermined."

A year later, a massive change that has largely gone unnoticed is flow of financial savings. "The change of household savings into equity and mutual funds. It is a massive change," says an economist. "Demonetisation was a watershed moment, average monthly inflow into equity mutual funds grew from $0.6 billion to more than $2 billion. In fact it has touched $4 billion in the last few months. The idea to invest in sophisticated products rather than bank deposits is a move in the upward direction."

More money in sophisticated financial products means more growth capital for companies, while bank deposits give you more debt capital, such instruments give more equity capital.

In India, the ratio is fairly skewed with only 6 per cent financial savings in equities as against 45-50 per cent in bank deposits.

Overall, demonetisation was an audacious move and the first volume of the Finance Ministry's Economic Survey cited three markers which help determine the success of effectiveness of the demonetisation exercise - use of digital payment methods/decline in the use of cash/expansion of tax base. At the end of the year, it is true that demonetisation pushed users towards digitisation but the momentum will only sustain through an improved digital infrastructure, better internet and telephone connectivity, sustained efforts at financial inclusion and better investor education.

Regarding measures to arrest the stock and flow of black money, demonetisation does throw up a lot of leads for the government to follow through. Also, the signal that it is no longer business as usual where usage of cash is concerned is loud and clear. But sustained efforts at ensuring ease and transparency in tax transactions, consistent monitoring, better investor education, enhanced digital infrastructure - together they will determine the success of demonetisation.

Last updated: November 08, 2017 | 17:23
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