Impact of Demonetisation on Indian Economy


This article critically analyses the impact of the demonetisation of high denomination currency notes on the Indian economy. It is concluded that the demonetisation had a negative impact on the Indian economy and the common man who drives this economy and a positive impact on some selective multinational corporates.

To demonetise a particular currency means to declare that currency illegal. This has been a year to the announcement of demonetisation of Rs. 500/- and Rs. 1000/- notes in our country. On 8th November 2016, while announcing this, the PM said that the step of demonetization would strengthen the hands of the common man in the fight against corruption, black money and the fake currency used for terrorism. He expressed his full confidence that every citizen would stand up and participate in the 'mahayagna' of its kind.

Since immediately after the move, it was expected that it would prove positive to the economy especially with regards to elimination of Back Money from the system. After a period of one year, it is observed that the exercise was an utter failure and an economic disaster for the country. Some well known economist like the former PM argued that there is a fall in the GDP growth by two percent. Some economist forecast of loss of employment and a jolt to the manufacturing sector of the economy. Now it seems that these economists were right.

This exercise hit every sector of Indian economy. Indian economy is classified in three sectors
1) Agriculture and allied, 2) Industry and 3) Services. The impact of this move on these sectors will be critically analysed in the following lines.

1. Agriculture and Allied Sector

This sector includes Agriculture (proper agriculture and animal husbandry), forestry and logging, fishing and related activities. This sector is highly dependent on cash transactions only. This was the worst hit sector by the demonetisation owing to obvious reasons. The workers in this sector are mostly daily wage earners engaged in farming, animal husbandry, transport of agricultural products to markets etc.. These workers live in rural areas where access to banks and internet is minimal. As per one estimate of RBI, only 27% of Indian villages have a bank within 5km.. A similar study estimates that around 3% households have access to internet in such areas. Even after seventy years of independence, this sector gives employment to nearly 60% of population. Since demonetisation had drained out major chunk of cash and paucity of banks, ATMs and other digital facilities to get exchanged the old notes, the workers and farmers had to stand in big queues for days to get their old currency exchanged with the new one. This resulted in loss of wages and man power for the production. The employers and contrators were also facing the same problem. The shortage of cash also added fuel to this situation.

In spite of good monsoon, the unavailability of cash for a considerable time owing to the poor execution of this move resulted in shortage of seeds, fertilizers and man power. This sector could register a growth of 2.3 % only in the first quarter of 2017-18 compared to an expectation of nearly 4% growth.

2. Industry Sector

This sector includes manufacturing units (registered and unregistered), mining and quarrying, electricity, gas, water supply, and construction. Industry sector is the most important part of the Indian economy. Next to agriculture sector, most of the employment (direct and indirect) is created in this sector. Growth of this sector is the most important indicator of economic growth and employment.

Demonetisation hit the most of small scale and medium scale manufacturing units. The cash crunch had its negative impact on the manufacturing activities of these units. The owners had to reduce the production owing to shrunk consumer demand and unavailability of cash to make payment to the worker and the allied manufacturers. The move resulted in shrinking the consumer demand to the extend that even sales of food products showed lower growth.
According to one report, mining industry officials said that cash shortage had forced a lot of mine owners and contractors to defer mining activity as they needed to pay daily workers in cash. Construction activities also contracted since they are dependent on cash payments to the worker and the contractors.

Demonetisation lowered the sale of companies in the consumer goods manufacturing sector. It created almost halt in the domestic appliances segment in which the consumer electronics was the worst affected. There was a slowdown in the sales of two wheeler since around 60% purchases of these were in cash. The sales of vehicles like big vehicle, tractors did not show much change as most of these vehicles were financed by finance companies.

Demonetisation has hit the pace of announcement of new investment proposals during the quarter ended December 2016. 227 new investment proposals worth Rs.818 billion were announced during this quarter till November 8. In comparison, only 177 investment proposals worth Rs.437 billion were made between November 9 and December 31, 2016.

Demonetisation slowed the growth of this important sector from 10.7% in the first quadrant of 2016-17 to only 1.2% in the first quadrant of 2017-18.

3. Services Sector

Services sector includes banking, trade, hotels, transport and all services. Since the service sector is linked to the manufacturing activities in particular and general growth related activities of the economy in general, cash shortage contracted the services sector too at sharpest rate for the first time since June 2015. Annual growth in trade, hotels and transport services slowed to 6.5 percent in the January-March period of 2017 from 8.3 percent a quarter ago.

Banking is the most important part of this sector which plays as a catalyst for economic growth. Initially some economists predicted a surge in banking activities, but the annual report of the RBI shows a lower profit because of demonetisation. The reasons were- 1) Banks had to pay interest on Rs 17,426 crore after they mopped up excess liquidity in the banking system after demonetisation. 2) During November and December bank work was largely centered on accepting and exchanging specified bank notes, the other banking activities for economic purposes were affected which reduced the earning. 3) Since all ATMs were to be re-calibrated for issue of new notes, this added substantially to the operational expenses. 4) RBI had to spent Rs. 7,965 crore on printing new currency notes in 2016-17, more than double the expense of Rs.3,420 crore a year ago. and 5) Other expenses on speeding up the availability of cash through out the country also added to the working expenses.

Fall In GDP

Gross Domestic Product (GDP) is one of the most widely used measures of gauging the production in the economy. It is defined as the total value of goods and services produced within the borders of the country in a specific time period as monthly, quarterly or annually.GDP is an indication of the size of the economy, the GDP growth rate shows the economic growth of the country.

How demonetization hit the economy is very clear from the fall of GDP in post demonetization period.Gross Domestic Product (GDP) grew 5.7% in the April-June 2017 quarter compared to 6.1% in January-March 2017 period. The drop was even steep compared to the same quarter a year ago when GDP grew at 7.9%,

According to a noted economist, 1 per cent loss in annual GDP growth = loss of 1.5 lakh crore national income and loss of millions of jobs. Some reports estimate that RBI has lost atleast 1% of GDP growth in the exercise of demonetisation. This clearly indicates that the real loss to the economy is more than the hypothetical gains from the moping of so callled black money. This also raises questions on the style of functioning and thoughtless planning of the present government.

Loss of Jobs

Less employment generation has been a problem before this government from the day one. Demonetisation aggravated the problem. According to CMIE, approximately 1.5 million jobs were lost during the final quarter of the financial year 2016-17. Job losses owing to demonetisation was also reported by the government agency. According to Labour Bureau, a wing under labour ministry, around 1.52 lakh casual workers engaged across eight sectors, including manufacturing and IT/BPO, lost their jobs during the three-month period of October-December, 2016. Casual workers in the manufacturing sector were the worst hit with 1.13 lakh people losing their jobs during the period.

Conclusion

Demonetisation has been praised by the government and a few economists but by and large economist remained against this move and criticised this on various grounds. There has been a lot of opposition regarding the implementation of this policy. We saw that owing to the exchange of huge volume of cash without proper preparedness of the government, there had been problems related to liquidity crunch for more than six months that resulted in loss of growth momentum in the manufacturing sector, loss of employment and a halt to major economic activities. The government remained adamant and continued counting the benefits of the move. Lot of money was spent on the advertisements related to demonetisation and digital transaction during UP elections immediately followed to this move. Responding to the question on details of total amount spent by the government for publicity of demonetisation, the state minister of IB said that total committed expenditure for awareness regarding digital payment and popularising action on less cash economy was Rs 93,93,28,566 (almost Rs. 94 crores). This questions the intentions of the present government also.

Ironically, while the common man of the country was adversely affected, the companies like Paytm (Chinese), Mobikwik (Japanese) and some other multinational companies benefited by this in a big way. There is a doubt that the economy would recover in the last quarter of 2017.The long term effects of demonetisation are yet to be seen. In short, demonetisation had a negative impact on the Indian economy and the common man who drives the economy.


Comments

Author: Natarajan09 Jan 2018 Member Level: Diamond   Points : 5

Demonetisation was the biggest event in 2017 and in the recent Indian History with the Government claiming it to be a success as far as curb in fake notes, making black money worthless overnight, reducing the cross border terrorism/sponsored events etc.

The problem starts with the gross underestimation of the number of people being affected by the lack of cash for day to day transactions, small businesses and families in rural areas needing cash for running their homes.

It was hoped that people with illegal earnings cannot or would not deposit the old currencies as they would get caught with IT scrutiny at a later date. But there are news reports that around 97-98% of the old 500 and old 1000 rupee notes did reach the banks.

People were standing in the queues for long hours to get some money but many bank staff was distributing or hoarding the new Rs 2000 notes. Cash-based transactions at a much smaller level in various service sectors had a drop in their revenue.

Terrorist funding and unrest in Kashmir are said to have dropped but I think, in a couple of months, it was back to normal for these people.

It could have been planned and implemented better.

Author: K Mohan09 Jan 2018 Member Level: Platinum   Points : 4

There is no doubt that our Prime Minister Modi has taken such a big step of this century when the government has withdrawn big currencies as non-legal tenders and hence those who were having lots of black money were caught unaware and their life became hell. For the common man, there were initial hiccups as the bankers were not able to cater to the needs of the public with new notes in place of the old deposited and for that reason, the government should not be blamed. For any big action there would be always instant criticism. But seldom people think of long-term benefits of those decisions. Hardly one year has passed and we cannot arrive at the conclusion that the demonetization has failed to cater to the needs of the government. We have to wait for another year to have full details of every sector as to how it fared.

Author: DR.N.V. Srinivasa Rao11 Jan 2018 Member Level: Diamond   Points : 4

The effect of this demonetization is not completely visible so far. I hope they will be visible a little later. Definitely, there were some problems faced by the common man. But he welcomed the action. But unfortunately, some of the Bank Officers at the highest level did not cooperate with the government properly and helped the corrupt people for their temporary gains and they made a definite impact on the implementation of the scheme. This corruption of the officers is responsible to some extent for the present feelings of the people. Many people now are answering the questions asked by IT department about the deposits they made during the period and they are getting a lot of money in the form of tax to the government. Definitely, the black money circulation in many places, especially in real estate business, has come down which is a welcome phenomenon.

Author: Sunilkanth12 Jan 2018 Member Level: Gold   Points : 5

I do not think that the demonetization was a solution to any of the aims proposed by the PM at the time of announcing the move. The move was a political move to create an atmosphere of a crusade against black money and corruption during UP elections. The common man fell pray to this propaganda. I have mentioned the amount the government spent on the advertisements on the move. The clear waste of government money to achieve the political ambition of the ruling party. How can anybody think of demonetizing 86% of the currency of a country whose economy largely depends on cash? The author has given the data collected from the government sources. The major effects of demonetization were slowing of the economy and huge unemployment. The future will show more such harmful effects and this slow down may linger for years.

Author: Partha K.17 Jan 2018 Member Level: Diamond   Points : 20

I started reading the article with interest. I thought that the article would present a balanced view of an epoch-making decision and its implementation. But after reading the article, I have found that the article contains only criticism of demonetization, most of which is irrational in nature.

The demonetization has been carried out more than one year ago. Now, we can objectively analyze the decision. As the author of this article has seen only negative aspects of this issue, let me present a contrarian viewpoint.

Many analysts say that the Prime Minister Narendra Modi’s demonetization move was designed to bring billions of dollars worth of cash in unaccounted wealth into the mainstream economy, as well as to hit the finances of terrorists who target India and are suspected of using fake Rs 1,000 and Rs 500 notes to fund operations. According to various reports, the growth in Rs 500 and Rs 1,000 banknotes was steeper- Rs 500 notes grew 76 percent between 2011 and 2016, while in the same period, Rs 1,000 notes rose by 109 percent.

Boost to digital payment: Demonetisation has come as a big boost for digital payment platforms. The digital transactions in all modes increased by 23 percent to 27.5 million in May 2017 from 22.4 million in November 2016. The highest jump was witnessed in transactions through Unified Payments Interface (UPI), from one million per day in November 2016 to 30 million in May 2017.

Closure of shell companies: The Government has de-registered over 2 lakh shell companies based on the data obtained from demonetization, indicating the Government’s intent on this matter. These companies were used to funnel black money.

Growth in tax collection: After demonetization, advance tax collections showed a growth of 42 percent in the beginning of August 2017 of the current financial year over the corresponding period in 2016-17. Growth in the number of people filing income tax returns rose by 25 percent in the said period. The number of taxpayers has registered a growth of 9.9 percent.

Check on hawala transactions: After demonetization, the hawala network almost went into complete paralysis. Payments to the end beneficiary of hawala deals are traditionally in cash, with Rs 500 and Rs 1,000 being the favored denomination. As per the reports of intelligence agencies, the call traffic by hawala agents in India has dropped by 50 percent. There have been several reports of busted hawala rackets across India. The Finance Minister Arun Jaitley said that there had been a sharp reduction in insurgent and terror activities in states like Jammu & Kashmir and Chhattisgarh.

The step helps to develop a strong banking system: Reserve bank of India has declared it received almost all of the estimated Rs 15.4 lakh crore in high-currency bills removed from circulation late last year. Many economists say the measure has had a positive impact, including bringing in cash into the banking system, and hence lowering the cost of loans, even as significant parts of the economy were disrupted. Between November 2016 and March 2017, deposits with the banks went up by Rs 3.5 lakh crore, aiding overall margins. Deposits in Pradhan Mantri Jan-Dhan Yojana accounts rose to more than Rs 6,4000 crore with 18 million new Jan Dhan accounts has been created.

Concluding my response, I have to state that this article is totally biased. This does not discuss the pros and cons of demonetization in India.

Author: Sunilkanth21 Jan 2018 Member Level: Gold   Points : 5

I did not write this article to appease any body nor to criticise any body. I have been tracking the whole move since its announcement. Whatever I submitted is based on facts and figures mostly from the government sources and RBI annual report of Aug 2017.I do not rely on the fake figures or some arguments given as a propaganda.

Initially, I was only questioning the need of sucking around 86% of the cash volume from a cash driven economy. But as time passed the failure of this move on the stated aims came in light. The demonetisation would have been a little success if it would have been implemented with proper preparedness and within a very short time after the availability of new currency notes, Let me give my arguments on the points you raised.

I wonder how this move would bring millions of dollars of unaccounted cash into the mainstream when we are talking of demonetisation of Indian currency which is Rupee. The RBI report shows that 99% of the currency notes came back to treasury after demonetisation. The fake notes discovered were also less than those discovered before demonetisation. This refutes the logic that the Rs 500 and Rs 1000 notes were out of proportion and needed to be banned to restrict terror funding. There are reports of recovering new Rs 2000 notes from the terrorists arrested in Kashmir. Even if you accept this logic, then why Rs 2000 notes were legalised when notes of Rs 500 and Rs 1000 were banned. with a plea that high denomination notes are the main culprits of corruption, black money and funding of terrorism. Please read the article Demonetisation: An Utter Failure on the same site for the discussion on all these aspects

Yes there was a boost to digital transaction during the period of demonetisation. The reason was shortage of currency in circulation. People had to resort to digital payment under compulsion. The level of digital transactions came to pre-demonetisation levels as the cash was available in the circulation. The temporary surge gave advantage to multinational corporate Paytm.

Some companies are closed that were closed under company act provisions of dormant companies. How many of them are shell companies is a matter in court. The government has not disclose any amount of recovery from these companies.

Advance tax collection and real tax collection are two different aspects. There are reports of surge in advance tax collection in old notes just after demonetisation. The increase in number of filing returns is not tax collection. Many people file zero tax return on the advise of CAs. The government did not give any figures of extra tax collection.

Banking system suffered heavily owing to its engagement in demonetisation. The figures are given in the article.

There are reports that the black money was deposited in the Jan Dhan accounts. Government was slow to respond and by that time crores of rupees were transacted through these accounts. It would take long years to detect and prove that this money is black money. I do not think that the government would take any action against these accounts owing to obvious reasons. Ultimately, the execution would be done through the same corrupt machinery which is responsible for the corruption and black money in the country.

This article is not biased. This has discussed all the material available with facts and figures rather than the propaganda material. In short, demonetisation had a negative impact on the Indian economy and the common man who drives the economy.



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