http://www.thecitizen.in/index.php/NewsDetail/index/1/9457/39-Days-Demonetisation--Recessionary-Conditions-Take-Hold
39 Days Demonetisation: Recessionary Conditions Take Hold ARUN KUMAR Saturday, December 17,2016 NEW DELHI:Demonetization is all about currency and the amount of money with the public. Since the public has no interface with the Reserve Bank of India, they have to deal with the banks for their daily requirements of money. Consequently, demonetization has had a dramatic impact on banks in India and this is likely to persist. Banks and the Public Ire First, they have had to both take back the old currency (no more legal tender) as well as issue new currency to the public. But there is just not enough currency to replace the old one so there is an acute shortage of currency. Banks are unable to meet the public demand. They are rationing the amount of money they give to the public. So, even though Rs.24,000 per week is allowed to be withdrawn, it is seldom that people are able to get this in one go. The banks are also required to handle the situation at the ATMs where there are long queues because they get emptied out soon after they are stocked with currency. So, people have to queue up repeatedly. Second, banks are facing the ire of the public. They are being accused of fraud since some people are being caught with large sums of new currency notes. In contrast, the public is repeatedly going to the banks or the ATMs but often is not able to draw the requisite amount of cash. In the public mind there is growing suspicion that the well off or the corrupt are cornering currency while they have to queue up and waste their energy or even lose their daily wage. The blame falls on the bankers since wrong doing/favouritism is suspected in all this. Anyhow, the investigative agencies have tightened rules which means that the banks have to have additional checks which slows down their work. They are required to keep a trail of the money deposited and this has added to their work and costs. Several bank branches have been raided which has meant that no work can be done there and that leads to loss of productivity. Profitability of the Banks Hit Third, it is reported that by now Rs.13 lakh crores of old currency has come into the banks; there is a swelling of deposits. The banks should be happy but they neither have adequate time nor the staff to lend the money, to earn a return. Also, this money has to be deposited with the RBI to exchange for new currency so it is transitional. It is unclear how far it is available for lending. Further, costs have risen because they have had to cut their charges for the use of debit cards, recalibrating ATMs and so on. They are also being asked to open accounts of the poorer sections and that entails additional costs without much income being earned on them. Thus, while their costs have risen, their income is falling and impacting their profits. Fourth, it has been argued that banks are now flush with very cheap funds so they can lower their lending rates. It is suggested that this can give a boost to the economy. However, as argued above, banks are not in a position to lend at the moment and the money coming in is transitory till the public withdraws most of it. Further in a situation of demand shortage, it is unlikely that investment will rise even if interest rates are reduced. We can see this in the US or EU where in spite of interest rates being close to zero (or even negative in Japan) investment did not pick up and the rate of growth remained low for a long time after 2007. Banks and Rise in NPAs Fifth, the impact of the demonetization has been an immediate sharp slowdown in the activity in the unorganized sectors of the economy which is facing a shortage of working capital. This has also meant increased unemployment and a fall in demand from these workers. This has also hit the organized sector. Discretionary demand from the well-off sections has declined leading to a further fall in demand. All this has meant a drop in production and a fall in the profitability of a large number of enterprises and a weakening of their balance sheet. This could soon dent their ability to service their loans from the banks. Thus, soon, banks may face rising NPAs. As it is, they were saddled with large NPAs and write-off of debt. This will further hit the profitability of the banks, some of which were already in trouble in the last one year. Sixth, the crisis in the farming sector, the largest component of the unorganized sector is severe, according to reports. Many farmers have not moved their crop to the mandis since they are not receiving payment from the Arthiyas. They are having to dispose of their perishables (like, vegetables) at throw away prices leading to losses. This is also preventing them from planting the next crop. Thus, the distress of farmers will increase and they will have to default on their loans. Banks, `Cashless’ Economy and Shifting Goal Post Seventh, large numbers of those who held unaccounted cash have recycled it via a variety of means. The have used the accounts of poor people and Jan Dhan Yojana accounts where the deposits have swelled up by Rs.27,000 crores. It is difficult to collate all these accounts to find out whose money is being deposited. After all, those with substantial black cash will have an average of Rs.1 lakh per person. This is likely to be below the radar of the authorities. They also do not have the manpower or the wherewithal to check crores of such accounts. To recycle black cash, people have bought assets (real estate, gold, jewelry, etc.) in back dates, used shell companies and havala to move funds and so on. Thus, of the estimated Rs.2 to 3 lakh crore of the unaccounted cash, most would have been (or by the end of the deadline will get) recycled into new notes. These manipulations have also aggravated the shortage of cash for the public which does not deal in black cash (or generate it). Eighth, given the shortage of cash, even when payments are made to workers in check or into their bank accounts, they are unable to get their cheques cashed or draw the money. The same problem is faced by the farmers. Thus, difficulties are faced by the poor. This would dissuade them from using banking in the future also since their experience would not be good. Ninth, the government finding that demonetization is unable to check the black economy has given a new spin that demonetization is a drive towards a `cashless’ economy. But, this requires a massive infrastructure in place. Point of sales machines, internet infrastructure and reliable ATMs, etc. In the absence of all this, it is a tall order to go cashless but we could slowly move towards a `less cash’ economy. Since there was no advance preparation for this shift, suddenly banks are being saddled with the costs of setting up infrastructure. This can lead to increase in cyber crimes like, hacking of accounts (as seen recently in the case of SBI or the Central Bank of Bangladesh) and so on. Once again costs for the banks will rise. The Currency Shortage will Last Since the entire set of events discussed above have been set off due to a shortage of currency and this shortage will eventually disappear as more and more new currency is printed and put into the market, what will be the long term consequences? If the shortage could be over in a month’s time, then the changes set in motion in the economy would reverse quickly. Unemployment, decline in demand, crisis in banking, decline in profitability, etc. would also reverse quickly. While some of these costs could reverse in the short run, most of them have long term effects and that will make the changes irreversible. However, the shortage of currency will continue beyond the 50 days asked for by the PM. This is due to lack of capacity to print new notes. Twelve years supply of currency is being replaced. Even if three shifts work and there is staff to run three shifts, it would be difficult to print so many notes in less than 6 months, even granted that Rs.2000 notes instead of Rs1000 notes means quicker printing. The work will be hampered by a shortage of paper and ink which is sought to be imported and that takes time. No one keeps 12 years of inventory for their annual operations. Even exporters abroad will have to crank up production and then there has to be a process of tendering, etc., which takes time. The problem will be compounded by hoarding of currency. A mentality of shortage has taken hold so that businesses and people are holding on to the currency they are able to get from the banks. Banks are saying that the notes issued are not returning. So, at least 50% more currency would have to be printed than has been extinguished by demonetization. Further, since Rs.2000 notes are not that useful for small purchases in the absence of the Rs.500 notes, small denomination currency is being printed to meet shortages. To print Rs.100 denomination currency notes instead of a Rs.1000 currency note would take at least 5 times more time and resources. To print Rs.20 notes would take even longer. Thus, a shortage of currency can continue for a year or more. Conclusion: Irreversibility and Recessionary Conditions Beyond a month, irreversibilities would set in. As capacity utilization in industry declines from the already low level of about 75%, employment and investment would be hit which would further reduce demand and slow down production. This is typical of recessionary conditions. The sharp economic slowdown would lead to lower tax collections rather than higher tax collections expected due to a check on the black economy. The distress of the common person in society would force increased expenditures from the budget. Thus, leading to a higher deficit or curtailment of capital expenditures and further slowdown in the economy. How would the next budget be drafted in such circumstances. There is today a loss of confidence in banks and money. People are not able to draw their own funds and there is a fear that the Rs.2000 note may also be withdrawn in the near future. All this will lead to a shift to near money forms. People could buy more gold and keep more of their wealth in foreign exchange. This would dent the BOP. Thus an economy that was supposed to have healthy macroeconomic parameters and running well is going to see a sharp deterioration in in these parameters which would aggravate the recessionary conditions and the irreversibility. (Dr Arun Kumar, a reputed economist, was earlier Professor of Economics,Jawaharlal Nehru University. He is the author of Author of `Indian Economy since Independence: Persisting Colonial Disruption’). -- Peace Is Doable -- You received this message because you are subscribed to the Google Groups "Green Youth Movement" group. To unsubscribe from this group and stop receiving emails from it, send an email to [email protected]. To post to this group, send an email to [email protected]. Visit this group at https://groups.google.com/group/greenyouth. For more options, visit https://groups.google.com/d/optout.
