The negative impact of demonetisation was felt all told segments, especially in farm and industry
banking company of India’s (RBI’s) confirmation that almost all demonetised notes were returned to the financial institution finally confirms the long-held suspicion that the unilateral executive decision to ban specified notes not only failed in its stated objective of flushing out hidden wealth but also ended up causing some damage to the economy. The RBI annual report for 2017-18, released on Wednesday, shows that just about all the banned banknotes, or 99.3% of the notes withdrawn, were returned to the financial institution.
The government had on 8 November 2016 abruptly withdrawn currency notes of ₹ 500 and ₹ 1000 denominations without providing for adequate replenishment. All economic agents got a limited time window to deposit their existing notes with banks and replace those with new notes. This created an enormous pressure on the banking industry, marked by lengthening queues outside banks for about two months.
The sudden decision had a two-fold impact on the Indian economy: an aggregate demand shock by reducing the availability of cash, and, an aggregate supply shock by constraining availability of money as a critical input for specified economic activities, like purchase of inputs within the agriculture sector. Growth caught up to a four-year low of 6.7%.
Kavita Chacko, senior economist with Care ratings agency, says: “Demonetisation led to disruptions in economic and industrial activity. The lower domestic GDP growth within the past two years is essentially on account of demonetisation and GST implementation led turbulence.”
At the identical time, RBI data indicates that the required effect of a considerable reduction in frequency of money transactions remains largely unfulfilled.
Immediately after demonetisation (November-December 2016), sales of consumer goods and appliances slipped by 40%. The effect of demonetisation was more pronounced in Tier-II towns and beyond, generally spoken as up-country markets. The impact on the durables and appliances segment was palpable as this market still operates 80% on cash.
Schemes encouraging digital payments, special discount offers and promotions failed to ease demonetisation’s impact on durables market.
That year, companies within the sector were expecting a 30% growth on improved household income, backed by a decent monsoon and also the 7th Pay Commission. But that didn’t materialize.
The after-effects have also taken your time to feed through the system. In its latest Article IV Consultation report on India, released in August 2018, the International fund (IMF) has said: “The impact on growth appears to possess been more severe and longer-lasting than anticipated at the time of the 2017 Article IV Consultation with a disproportionate impact on the informal sector.”
The negative impact of demonetisation was felt across the all segments of economy, especially agriculture and industry. The worst impacted were segments that relied on high-volume cash transaction, like organized and unorganized retail. The impact was felt at both the firm level still as at the patron level. The IMF report quoted above also states that the disruption caused by cash shortages dampened consumer and business sentiments, resulting in a decline in high-frequency consumption and production indicators, like sales of two-wheelers and cement output, respectively.
Praveen Khandelwal, Secretary General of the Confederation of All India Traders (CAIT), said: “In the primary four months after demonetisation, business was down by the maximum amount as 50% for tiny traders. It took about six months for things, currency flow and business to normalize.”
Even in agriculture, demonetization aggravated the sector’s existing stress points by creating new choke points within the supply-chain. Cash may be a critical input within the agricultural production process and its unexpected shortage had an impression at many levels, including a slowdown employed of labour and a dip in overall farm incomes. The Economic Survey for 2016-17, authored under the stewardship of former chief economic adviser Arvind Subramanian and released in January 2017, also echoed these concerns at that point.