By Abhishant Pant, Founder, Cashless Journey
Almost everyone (from common man on street to business houses to politicians) was taken by surprise on yesterday’s decision by the government to withdraw old Rs. 500 and 1000 notes from market. The prime minister said that such notes will become “mere paper”. While I have been writing on this subject for last 8 months, this one step is truly a master stroke. So let’s look at what does it mean for all of us
Mere Paper: means you cannot transact with old Rs 500/1000 currency (except for emergency use cases for next 72 hours like railway, bus tickets, Airport, Petrol Pump etc ) and they need to be deposited back to bank till 30th Dec 2016, or max upto 31st March 2017.
So all those who are holding huge pile of cash are stuck in a tough situation. If they deposit cash in bank it will be hard to justify (considering the government recently closed the VDIS scheme) and can mean prosecution and tax implications. IT department has already asked the banks to share details of all those depositing money in excess of Rs 2 lakh. Yes, there is absolutely no restriction on how much you can deposit in your account. If they don’t deposit, it will be of no use.
Our Responsibility
Those who hold legitimate source of income they need not worry at all. However, we have even bigger Responsibility to educate and help the vulnerable (Domestic help, security guard, driver, old parents living in other cities). So please help them exchange old notes. Help them understand that these notes can be deposited at the bank next door for their full value. Give them extra cash for next 2 days till ATM queues shorten a bit. Most importantly talk to them why this change is important. Finally, and most important start paying them directly in the bank account. This one step of yours will go a long way in building their credit profiles.
Not for the first time
This is not the first time the exercise of demonetization is taking place in 2 instances. Govt withdrew in 1946, Rs 1,000, Rs 10,000 banknotes and then reintroduced in 1954, along with 5k note. This was again demonetized in January 1978. However, these examples are simply not comparable from the perspective of the size of economy, and the value of money (Purchasing power of the currency). For example, a 10,000 note had a huge value in 1978, while inflation has made the worth of Rs.500 and 1000 negligible comparatively.
How much money is in circulation?
The exercise to be undertaken by banks starting 10th November is mammoth we have approximately
– 16.5 Billion Rs. 500 note and 6.7 Billion Rs. 1000 in circulation (in totality 72 billion notes in circulation) which means approximately 23.2 Billion notes to be taken out of circulation replaced with new Rs. 500 and 2000 notes in totality 14-15 lakh crore rupee worth old currency moving out of the market. Overall 500 and 1000 Rs note contribute 88% of the 17 lakh crore physical cash in circulation. In totality just 180 lakh (250 notes per million) currency notes out of this are assumed to be counterfeit, therefore the larger problem is not counterfeit but cash economy and resulting tax evasion.
So will it actually impact black money economy?
To start with Black economy is a much wider term (it moves in various instruments within economy) and involves real estate, gold/jewelry, Agriculture land purchase and conversion to commercial, money lying in form of currency notes, Hoarding of consumables (wheat, pulses etc) etc. So while the immediate impact will be on cash, for medium term it will impact all black money purchases (for the long term it can reduce the size of black economy but won’t eliminate it).
How much is cash part of black money? While it’s a difficult question to answer Between 2011-16 while the economy has grown by 30 % the Rs.500 note circulation has grown by 76 % and Rs. 1000 note by 109 %. While part can be attributed to increase in the cost of essential daily use items, larger remaining piece is still hard to explain (reflecting huge growth in counterfeit notes). This differential can represent counterfeit cash.
5 % of GDP is real estate: And if 20 % (market estimates) of the sale represents cash then it’s around $22-25 B
703 tons of Gold purchase: Large jewelers have acknowledged during TV debates that almost 80% of this is cash purchase i.e. 560 tonnes is cash (approx. $270 B). Of course, there is no estimate to suggest how much of it is actually regular consumer purchase and how much is black. A 22% (based on size of black economy) estimate gives $54 B figure.
All of this put together means a minimum $100 B impact on black money
So while all this is happening will the business community remain silent?
The final impact will take a long time to get understood however a lot of my friends in business community are already talking about activating the “Kaccheke account“…. These are essentially account opened by the business community for their maid, driver and other support staff and are essentially used to rotate cash during march closing. So what it means is suddenly number of bank accounts lying idle or dead for last few months (normally used only in march end cycle for shell vendor payments will get suddenly activated). The driver, domestic help , labor working with business community will start queuing outside the bank for depositing cash in “Their Account”. Then providing this as a loan to business owner. Or as the time will lapse they will bring it back to black economy in form of cash. So the journey is long.
Impact to small businesses: The big trader will start offering credit till the dust settles, money rotates and comes back to the system. This will impact small traders who are not in a position to play.
It will activate the touts: In next few hours you the business community will suddenly find a number of usual suspects willing to convert black to white. Last heard the rate is 5%.
The cost of Rs.100 note will suddenly shoot-up:Already the rate to procure Rs.100 note in business community has gone upto 3%. This essentially means business men are paying Rs.103 to procure Rs.100 from market for labor and other business critical payments.
Funding to Political Parties: Local businesses houses known to support favorite political parties for poll funding will find it difficult to pay. So elections spending in UP, Punjab, Uttarakhand, Goa and Manipur will be impacted.
Positively Impact the Unbanked: It will positively push the unbanked (Both Urban and Poor) in getting bank accounts opened and will activate large number of PMJDY bank accounts.
Business cycle gets impacted:So it’s not one or two individuals — the business cycle gets impacted.
Another friend based out of Raipur had the below take:
– He owns a brick manufacturing unit
– Yesterday he received Rs. 5 lakhs in cash towards sale of steel wires
– All of this was in Rs. 500 and 1000, now he needs to pay to the manufacturer who is not willing to take these denominations and is also not interested in account payment. All of it leading to money getting stuck in business cycle. The only option left with my friend is to “buy” Rs. 100 note or for the business to wait till the new normal is found. So as per him, the challenge for next few months is building new settings in market and find a new normal. And it is this money in business cycle that gets impacted the most.
However as per him the one most impacted will be
1. the Sarkari Babu or
2. anyone who is hoarding cash or
3. Those who are in seasonal business
The one who has a rotation kind of business cycle he won’t get impacted. For example, a person who has a family of 8 can have 12 files (Tax) including HUF, so in situations like these, he can bring 36 lakh to the formal economy without paying a penny. Otherwise also P&L of the partnership business he holds can be managed in multiple ways. He believes the white money in economy will drive consumption so overall it’s a positive step
The most important statement was “the money stuck in cash market is coming out and people are willing to pay and those who are supposed to except are taking same”.
Short term to Medium Term impact
Real estate: as per various estimates in case of apartment purchase almost 15-20 % payment (particularly car parking) even in first sale from builder to buyer is made in cash. The proportion keeps on increasing (20-30 % is quite common) depending on the difference between govt. fixed rate (known as ready reckoner rate in Mumbai) and the market rate. Now as the black money generated till 8th November will go out of market. Real estate is already sluggish and surviving on investor money it will put pressure on builder to release inventory at discounted rates
Gold and jewelry: Till 31st March you may observe huge uptake in gold/jewelry purchase as a favorite conversion point.
Agricultural land: Conversion to Commercial or housing is a huge source of black money moving in market and may get impacted.
Positive Impact to Wallets: This will provide an additional thrust to mobile wallet’s pushing urban (to start with) population to opt for cashless way to pay. And those wallets who are present at places I need to pay as a consumer will win big time. Some initial investment in terms of cash back in getting this new set of consumers started will be great adoption catalyst.
Impact on Underground/Black Economy: As per the USAID Report Barriers to a Digital Economy, an overwhelming 97 % of retail transactions in India are in cash. This move will positively impact the movement towards digital transactions and will push us to a less-cash society. Estimates of the size of black economy range from 30 % to 75 % of GDP. Just think of the tax revenue and productive usage this money generated can be submitted.
If even 25% ($550 B) of this is brought into the tax net it has a potential (purely on account of blended tax income of $ 75-80 B) to bring millions above the poverty line. Large scale government. schemes like NREGA, NRHM can be funded for over next 10 years by just 1 year of tax revenue emanating from this initiative. Getting rid of black economy will be one of the true manifestations of Swatch Bharat Abhiyan.
Impact of Digitization and Contribution to GDP and Job Growth: The latest Moodys Analytics Report estimates that increased usage of electronic payment methods have added $ 6.08 Bn to India’s GDP between 2011-2015, adding 3.36 lakh jobs in the same period.
Cost of Cash: With 76.5 B (2012-13 RBI data) pieces of currency in circulation, the operational cost of managing currency operations (to RBI and banks) is $ 3.5 B. Think of the need to re-issue currency due to wear and tear. However, even bigger is the loss on account of dead cash lying in wallets rather than in an income generating instruments. There is an additional cost in terms of time and effort submitted to withdraw cash. It further places the disproportionate burden on poor due to lack of places to keep and save it securely for future.
Leakage in Govt. Subsidy and Welfare Schemes: As per Economic Survey released in Feb 2016, govt. provides approx. Rs. 3.7 lakh crore in subsidy via various programs like fertilizer, food, kerosene, diesel etc. And the survey further builds that a large percentage of this does not go to. Just think of savings (due to reduced leakage, lower administration cost and efficiency of service delivery) if all of this goes directly to the Aadhaar linked bank account. A 2010 report, the benefits of e-payments to Indian society by McKnisey predicted Rs 97,000 crore savings due to electronic payments infrastructure.
Cost of Liquidity Management: Corporates spend large amount in managing cash in their value chain (Consumer-Retailer-Distributor), if a large portion this goes digital it has obvious liquidity management benefits to all participants of this value chain.
Think of the above benefits and the force of this decision, along with 20 new banks, mobile wallet players, Fintech players and PMJDY! This is clearly a once in a lifetime opportunity impacting black economy at large and to get a billion people under the financial inclusion umbrella sustainably and profitably.
Overall it’s a huge positive as a showcase of government intent and will put pressure on black economy. It will directly impact counterfeit and corruption in public domain. However, the real result will be seen more on a long term basis and increase in digital payments will be good proxy to check the impact. And finally it will be important to see what will be the incentive and drivers for consumers and business not to go back to the old state…
Abhishant (https://in.linkedin.com/in/abhishantpant) is Mumbai based Fintech expert.On 13th march 2016 to enhance his understanding of the challenges and catalysts in India’s journey towards cashless society he started a cashless journey (essentially he stopped carrying physical manifestation of money i.e. cash) experiment. During more then 200 days of journey he travelled length and Breadth of India and did a comparative study with Singapore market as well. He has spoken about the journey learnings via Ted Talks, Lectures at NUS, IIM and IIT’s and at various Banking conferences, he is closely associated with the Fintech world (as mentor) via incubators like Barclays Rise, Zone Start-ups and writes regularly on Fintech landscape opportunity and challenges.
