Demonetization Rocks India’s Economy

On November 8th, India’s Prime Minister made a public announcement, declaring high denomination notes of 500 and 1,000 rupees as illegal tender. The move, he said, would combat tax evasion, counterfeiting and terrorism. The country’s population got a 50-day window to deposit these notes. While the government introduced new notes of 500 and 2,000 rupees, it placed strict limits on withdrawals. More than a month has passed since the announcement, and the effects so far are none too pleasant.

Kolkata, November 10, 2016.

Visit any densely populated region of the country, which should be easy to find, and you’ll find long lines of people outside banks, hopeful of getting some money. Instances of individuals standing for hours, only to return empty handed, are not uncommon even now. Businesses across sectors report slowing down in trade. Are things set to change in the near future?

Scarcity of new currency along with a shortage of smaller denomination notes is apparently not going away any time soon. Shashi Tharoor, a Member of Parliament and Chairman of the Parliamentary Standing Committee on External Affairs, opines that it might take India’s printing presses four months to a year to adequately restore the country’s currency supply. To help alleviate the problem, the government is trying hard to push towards a cashless economy, encouraging its population to conduct more digital transactions.

Data released by the Ministry of Electronics and Information Technology shows a sharp rise in transactions made using e-wallet services. The amount has increased from 1.7 million transactions per day on November 8th, to 6.3 million on December 7th. Prominent providers of e-wallet services such as Paytm, Mobikwik, FreeCharge and Oxigen are, without doubt, making hay while the sun shines. Mobikwik alone accounts for over five million new users during this period. It aims to spend around $250 million on branding and marketing by the end of 2016.

Overall, though, the picture continues to look grim. The country’s GDP growth forecast, as reported by Fitch, an international ratings agency, is down from 7.4% to 6.9%. Its report suggests that people don’t have adequate cash to pay for transactions. It also adds that time spent in lines will, in all likelihood, have an adverse impact on overall productivity.

While the government continues to push for digital payments, the country does not have enough point of sale (POS) machines. Praveen Khandelwal, Secretary General of Confederation of All India Traders, said that the country has only 1.4 million POS machines, against its existing need of at least 20 million. Banks have received orders from an unprecedented number of traders for these machines over the last month, and are struggling to keep up with the sudden spurt in demand.

One can see the negative impact on businesses across different sectors. De Beers reported that its business in India slowed down after the demonetization drive. Its sale of rough diamonds in the final cycles of 2016 stood at $418 million, down from $476 million in the previous cycle. There has been a decline in the sale of mobile phones in the country. Lava International, one of the major manufacturers in the country, halted production momentarily. Foxconn, a contract manufacturer, has offered two weeks paid leave to around a fourth of its 8,000 employees.

Medium and small scale industries have been hit the hardest. So have small traders and those working in unorganized sectors. These businesses usually pay their employees in cash. Payments for raw materials and supplies in cash have also been commonplace until now. With the flow of cash interrupted, scores of businesses are unable to pay for materials or make payments to their employees. Many are sending employees on leave. Hoping for paid leave in the unorganized sector is far-fetched. In some cases, sales are down by as much as 80 percent.

Experts feel that while prices of commodities will continue to fall in the short-term, there might be a delay in private sector investment as well. The 2017 fiscal is set to witness lower private consumption, although a revival in 2018 is definitely expected.

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