acer— UNE Sf etary economics. © GDPis multiple times the monetary base © Mrinchdes Currency and Demand Deposits; M3 includes Time Deposits too ‘Outstanding as on Item 2018 2018 ‘Marsi_| Novi z 2 3 AB ansiea) 125767. [Components Gaiiaivie) [5 Currency seth the Pub ia Ta 3) Demand Deposts wih Banks 3858 1. [B) Tine Deposits with Banks So1308| ——_97530.8 BH) Other Deposit with Reserve Bank rc 202: © Thecurrencyin circulation asof 8% November 2016 stood at Rs.a5.9akh crore © Of this, 86% wasin the format of Rs.500and Bs.1000 notes © What does demonetization entail? © Alok atMi orM3is telling: C is sucked in and convertedintoD © The immediate impact had to be on the rural system since °C" largely was used in the rural areas whereas “DD” has been used more in the urbanareas * http://w nial org in /blog/2on6 4 impart -demonetizations http://swwwlivemint.com/Opinion/ezcK eEx6iEVmqOWhEZdgdP/Currency-reform-a-risky-natural- experiment.htmlSome monetary angles to the debate.. * Hows money created? © Once the fiscal deficit is created, the Goverment may raise debt in the market (mostly banking sector) causing the existing pool of liquidity to get diverted to the GOI (crowding out) » To the extent that this debt devolves on the RBI, monetization impact of the deficit is felt; RBI assets in the form of Rupee Securities go up and corresponding amount of liabilities are issued by the Issue Department * The procedural angle: A huge increment in FOREX has forced the RBI to create more money in the last 2 years * This should ideally take care of money demand, but, the RBI seems to have created repo transactions to give more liquidity to banks, who wanted to issue it out = IFRBI didnt get into those repos, then crowding out would have become evident ‘= Implies that money demand has increased The usage of plastic money has increased and inflation has been under control in the past two years * And yet, the currency in circulation in India since 2015-16 has risen by 15%, much more than the 3-yeartrend average of 10.5%. + This ear top, there is no sense of returing back to the trend (post state elections and jewellers’ strikes), pushing the RBI to ask who needs this kind of money? talibersesy t-of-former-rbi-governor- 1ess-standard.com/article/economy-palicy/fil sews on-demonctsation némboisaq htmlSome more Subba... If we assume that the black economy is 25% of GDP, weare looking at USD 500 billion as unaccounted income If this were taxed at average tax incidence of 16%, we are looking at a tax loss of Rs. 5 lakh crore to the GOT RBI currency in circulation is Rs.6.5 lakh crore (More recent estimates by Ila Patnaik have been Rs.17.7 lakh crore) 86% of this i.e. Rs.ag lakh crore is in high denominations that have been squeezed out Assuming that 25% of this is held to fuel the parallel economy, then around R3 lakh crore will not enter the banking system by December end and the RBI liabilities stand extinguishedMacroeconomic effects of delegalization.. © Inthe very short-term, delegalization will spell disaster for consumption and growth (MV = PT) © Arguably, delegalization will also be disinflationary; even non-discretionary component of CPI basket takesa hit © Moreover, real estate, which has beena safe haven for black money, will experiencea squeeze. Although property values donot enter the CPI consumption basket, its benign impact will come through decline in rental values and transmission of that into the general price level. © The fasterand more effectively the Governmentand the RBI are able to handle the transition, the less will be the adverse impact. © Medium and long term is more important than the short, says Subba There'll be ‘windfall’ deposits that banks will get which can be ashigh as7.5 percent of GDP Banks will see their cost of funds declining even in theabsence ofany further policy easing by the RBI, and this should encourage them to reduce lending rates and pump credit” into the economy.Government finances will improve as tax is levied and collected on the disclosed wealth which is reckoned as unaccounted. A conservative estimate is that the Government will be able to mobilise additional tax of the order of 0.5 percent of GDP (Rs. 650 billion). This will help fiscal consolidation, investment in infrastructure and in ‘crowding in’ private investment*. The ‘cleansing of the system’ will be positive for both savings and investment. Houscholds, who have traditionally parked a bulk of their savings in physical assets like gold and dwellings, will now be positively biased towards financial savings which will have a significant multiplier impact on the economy. Finally, the shift to electronic modes of transactions, engendered by the temporary squeeze in cash, may actually persist even after the cash position normalizes as people experience its safety, convenience and efficiencyAbout the windfall gain to the RBI © How the RBI accounts for the gain is extremely crucial for public finances.as well as its autonomy * Wil the RBI show addtional reserves to account for “continuing lability” or will it simply book profits’ @ Cam the RBI withdraw from its obligation to pay the bearer a sum equivalent to the value of the currency? (G) Js there therefore a subtle distinction between ‘cancelling the legal tender character of the currency, the preferred phrase used by the Governmentand the RBI, and demonetisation? (ii) If the Reserve Bank decides on treating the liability as extinguished, what is the cut-off date when iewill happen? (iv) How will the RBI treat the reduced liability — as a special reserve on which the Government has no claim or as regular profit which lawfully has to be transferred to the Government? (vy) If the existing law is unclear on this, will the Government amend the law so as to establish its claim tothis money? (vi) Ifindeed, the ‘profit’ is to be transferred to the Government, how will the transfer of such a lange amount bemanaged?Indira Jaising.. Says that the move to demonetize may be wonderful, but its illegal! ‘The notification issued by the Central Government on 8 November 2016 has been purportedly issued under Section 26(2) of the RBI Act. [Government] may, by notification in the Gazette of India, declare that, with effect from such date as may be specified in the notification, any series of bank notes of any denomination shall cease to be legal tender7 [save at such office or agency of the Bank and to such extent as may be specified in the notification]. ‘Series’ in plain language can only refer to the series number on the denomination of a bank note. Going by this meaning, the government under this power can only scrap the legal tender ofa series of a bank note of any denomination. If the Legislature had intended that the government was to be invested with the power to withdraw the legal status of all bank notes of a particular denomination, as has been done in this case, theuse of the words ‘any series” would be entirely superfluous, and redundant. Hence she concludes that Section 26(2) was never intended to be used as measure of dealin, with the withdrawal of black money form the economy, not was it meant to withdraw legal tender from all banknotes of a particular denominationOrdinance please, Mr. PM! This is the reason why previous attempts at demonetization have ALWAYS followed the Ordinance route, followed by legislation Demonetization by an Executive Fiat implies that the Executive has done what the Legislature had clearly never intended Further, Article 300A states that “No person can be deprived of his property except by authority of lav.’ Thus a person cannot be deprived of his/her moveable and immoveable property except with the authority of law Demonetisation amounts to extinguishment of the public debt owed by the Government to the holder of the demonetised note The Supreme Court in Jayantilal Shah Vs RBI AIR 1997 SC 370, while upholding the validity of the High Denomination Bank Notes (Demonetisation) Act, 1978, held that demonetisation results in extinguishment of a public debt which amounts to deprivation of property and therefore could be done only by law ‘The Notification dates 8 November thus appears to be completely dene without the authority of the lawComparing the 1978 to 2016.. ® The 1978 move was hence created by an Ordinance and later formalized bylaw © If surprise was the only element to be maintained, it could clearly have been maintained through the Ordinance route © What was the need to come out with this only through a gazetted notification? © Every Ordinance has to be followed with a debate in the Parliament: reluctance of the Government to use the Ordinance route could be an indication of their reluctance to ‘open the debate in the Parliament, what they say now notwithstanding © Oris ita case of simply bad legal counsel? © And if so, who gave it? © http://ww.nationalheraldindia.com/news/2016/11/18/demonetisationstrictly-the-pm didnt-go-by-the-lawOn demonetization, black money and counterfeit © Demonetization affects the black economy only to the extent that the black money is held in the format of cash © It famously affects only the stock, not the flow, never the culture © How about the other formats: Land, gold, Swiss accounts? © Only tightening legislation helps in these cases: Raghuram Rajan on the issue http:/ /www-huffingtonpost.in/2016 /11/09/heres-what-raghiaram-rajan-thinks-of currency demonetisation/ © Who holds cash? Strong, local (non-BJP) political parties! © The swelling of Jan Dhan accounts to Rs.65000 crore is telling © In fact, now these 25 crore accounts (income redistribution) will partake in the black money! © While the move has created a bit of panic on ground, its equally true that its created an atmosphere of security for the next 10 years © Mahesh Ghatak, LSE, Why the move is poor economics but excellent politics © Counterfeit notes worth Rs.goo crore are within Indian system at any point in time; this accounts for 0.0281% and hence does not really seem worth the effortLosses to the GDP... © InFY¥iz, Qishows 7% growth rate and Qz could show around 7.6% (based on TIP and export growth numbers and a good monsoon) © Severe contraction expected in H2 © Ambit Capital says that Hi to Ha, Indiawill move from 6.4% to 0.5% growth rate © They expect a sharp “formalization” effect to start playing in F¥:8 wherein 40% of the informal, non-tax paying firms will exit the market, creating bigger businesses in the formal segments « Evenso, they claim that the F¥i8 growth rate also stands revised downwards from 7.3% to 5.8% + http://www.forbes.com/sites/timworstall/ 2016/1/19/ effects of demonetisation-on-indias-gdp- difficult-to-calculate-we-dont-even-know-the-sign/#65SfiicBs4aia © Goldman Sachs though says India in fact looks “most promising” in the medium term due to “currency reforms’ and stresses on the benefits of formalization, increment in Government revenue and the GST reformand lower exposure to external shocks © Ithas revised growth rate for F¥iy downwards from 7.6% to 6.8%: http://businessworld in/article/Demonetisatian-Goldman Sachs Revises India GDP-Growth. Forecast-To-6-8-/23-1-2016.108722/ SO have most other firms + Dr. Manmohan Singh has indicated a reduction of 2% in the growth rateCare Ratings Report ® A report by Care Ratings titled ‘Impact of Demonetization on GDP Growth in FY17' said, the services sector is expected to be affected the most. © “Importantly, these losses, due to their inherent nature, canlt be recovered in the next quarter. For rest of manufacturing, demand side issues would exist till such times that conditions stabilize and could get reversed in Q4. Hence, Industry is also expected to be impacted which will be more significant in the first 2-3 weeks post the announcement.” © While consumer goods’ companies are also feeling the impact right now, with tight liquidity in the markets, the demand is likely to come back by next quarter. Losses incurred would be recovered in the next quarter, particularly for consumer goods where there would be only deferment of purchase. © Even the SMEs in industry will have a major problem in adjusting production schedules as both payments and receipts flow in cash given their structures. © According to the Care Ratings’ report, as per initial estimate, overall GDP growth would beaffected by 0.3-0.5%Why rural India is seen to be in trouble.. © Only 38% of bank branches are in the rural areas © Ofthe total ATMs, only 19% are deployed in the rural areas © This implies that the rural borrowers rely heavily on the local money lender or other local informal sources of credit © The lack of cash simply ruptures these institutions, creating problems for rural areas © Ashifi to mobile transactions may not be immediately feasible © 872 million / 1252 million reside in the rural areas; only 12 million are internet subscribers © The WB says that only 1% of the rural poor even own mobile phones (2014): While this may have changed, we are still far away from mobile wallets etc. as an immediate reaction to thiserr Nite ont! Ivie PostImpact on the poor © Seems to have hurt the poor the most * Kancha Ilaiah Shepherd on Modi: http://w w:caravanmagazine in vantage! white-modi versus-black-people-kancha-ilaiah-shepherd-governments-demonetisation-policy © Talks about the inconvenience it has caused to the Dalits and the tribals: Very vocal about PM's positioning within the Baniya lobby rather than within the OBC lobby © Moveis not gender neutral either: Women who've been saving for the rainy day forced to declare their savings to the men and are probably never going to get it back © While noone can deny the implementation botch up and the hardships to the poor, there is also another calculation which brings an interesting insight to the fore.re the poor really suffering? Krishnamurty Subramaniam uses NSSO data to understand the trends First, the poor are unlikely to have substantial savings stored in Rs500 and Rs1,000 notes. Second, the bottom half of the population ends up spending almost their entire earnings ‘on consumption. Third, only two weeks have passed since the demonetisation was launched on 9 November. Therefore, the weeldy earnings of the bottom half of India’s income earners provide us the estimate of the cash that the poor would have in their kitty, which they would have to exchange in a nearby bank or post office. Finally, since the NSSO survey was conducted in 20-12, weekly earnings have been inflated The bottom half—be it rural workers, daily wagers, weekly wage earners, or fortnightly wage earners—earn less than Rs1,350 per week. In fact, even the bottom half among the urban population earns at most Rs1,970 per week. Even if the bottom half of the population has saved up to two weeks of their earnings (which seems impossible), the amount they have to exchange will be less than the Rs4,000 limit that was set by the government in the first weekSo then, who are the poor in the queues? (i) people from the top half of the country’s income distribution, i.e. the richer folks, who want to exchange their honestly earned savings for new currency; and Gi) people who are acting as agents/ money mules for the dishonest. The significant decrease in the queues after the government decided to use indelible ink to identify people that have exchanged their currency suggests large presence of the second category of people ‘This is not to deny the hardships of the poor: Butit does provide a useful counterpoint to understand how the Jan Dhan accounts get filled up with Rs. 65000 croresTrue benefit of demonetization: Going cashless in the medium term 870 million/ 1252 million people in India reside in rural areas ‘The number of “connected” internet users from rural areas to increase from 120 million in 2016 to 315 million in 2020: 30% compound growth rate A 2016 report by BCG shows that 75% of Indian transactions are cash-based as compared ‘to 25% in Europe or the US The move could well bean introductory course in shopping with mobile wallets ASSOCHAM predicts the value of M-wallet transactions to be increasing from Rs.20,000 crores in 2017 to Rs. 55 lakh crore by 2022 ‘The penetration of online purchasing has doubled from 2015 to 2016: But prepaid recharge and payment of mobile bills are the biggest transactions reported under digital payments PoS payment and other sales using online platforms very limited This is a huge opportunity provided the infrastructure can be createdThose in favorPolitical economy considerations.. © Even the most loyal BJP supporter cannot ignore the hardships caused to the common man or the squeeze in business in the short run So, can this move work? © The mood ina lot of parts is not yet entirely hostile: A lot hinges on the speed that currency can be provided across the length and breadth of India Yesterday's results of Municipal Councils shows a huge BJP wave in Maharashtra: Was largely perceived to be a litmus test for the demonetizationmove © Alot hinges on those Rs. 3 lakh croreto be extinguished from RBLaccounts © Its alot of money for infrastructure: Roads, mobile infrastructure Create quick employment and importantly, more assets: Crowd in the private sector Distribute it off as gains to the poor through those Jan Dhan accounts: Even if one transfers Rs.0000 to the 25 crore Jan Dhan accounts, we still only give off Rs.2.5 lakh crores http://blogs.timesofindia.indiatimes.com/Swaminomics/now-modi-can-turn-kala dhan-to-jan-dhan/ We're likely to witness a super soft budget *Finally, some conspiracy theories.. RBI's role? Transition from Rajan to Patel? © Where is the CEA? * Was this only to choke money power in the state elections? * Preponing of the budget?