Prime Minister Narendra Modi needs a new narrative for his banknote ban.
He’d touted the surprise move to scrap high-value bills as India’s biggest step against unaccounted cash, which the government estimated at 5 trillion rupees ($74 billion). The bulk of this money has already been deposited with two more weeks to go before the deadline lapses, meaning the shock to the system may have been in vain.
The decision sucked out 86 percent of currency in circulation, akin to withdrawing all U.S. dollar bills except about half of the $1 notes. Only 50 percent of this is projected to be replaced by the year-end, leaving authorities scrambling to push digital payments as public anger rises.
"India’s ‘own goal’ currency swap initiative has put a crimp on the cash-dependent economy," said Singapore-based Paul Gruenwald, chief economist for Asia-Pacific at S&P Global. The government’s "well-intentioned but poorly thought through demonetization program" is driving down the pace of economic activity, he said.
Finance Minister Arun Jaitley on Friday said there’s no official estimation of black money, the local term for unaccounted wealth. He submitted a written reply to a lawmaker’s question about a month after the government’s lawyer told the Supreme Court that Indians won’t deposit about 4 trillion rupees to 5 trillion rupees of bank notes of the 15.4 trillion rupees invalidated by Modi’s move, implying that this was ‘black.’ The top court was hearing petitions questioning the rationale behind Modi’s decision after Modi in his Nov. 8 speech to the nation said "the specter of corruption and black money has grown," without providing figures.
So far, about 13 trillion rupees of bills have been deposited in banks. The central bank on Monday tightened deposit rules, adding to a list of regulatory flip flops since Nov. 8.
As investors try to assess the impact of Modi’s move, all eyes will be on the government’s forecast for the year through March -- due Jan. 7. The central bank and private economists have lowered their projections for the economy where 98 percent of consumer payments are made in cash.
The Nikkei purchasing managers’ index signals a contraction in the key services sector, which accounts for about 60 percent of gross domestic product. Car purchases, a main indicator of manufacturing demand, grew at the slowest pace in nine months in November while sales of motorcycles and scooters -- where about 65 percent of payments are in cash -- fell for the first time in almost a year.
Commercial credit sank to a 19-year low as backlogs piled up at factories and banks stayed busy with the task of exchanging currency notes. Meanwhile deposits surged, pushing the credit-deposit ratio to a six-year low.
"For a cash dependent economy, a cash crunch is not good," said Madhavi Arora, Mumbai-based economist at Kotak Mahindra Bank Ltd.
The trade deficit widened to a 16-month high as export growth slowed in November and imports surged. Most worryingly, gold shipments jumped 26 percent in November, triggering speculation that consumers were converting their cash into non-productive holdings of the precious metal.
JOBSExport numbers also hinted at the employment outlook. A decline in gems and jewelry, a sector that depends on unorganized manual labor, suggested the cash crunch was affecting employment, said Kapil Gupta, an analyst at Edelweiss Securities Ltd. Rafeeque Ahmed, chairman of the council for leather exports, said Modi’s move has slashed about 75,000-100,000 jobs from his industry.
As demand dips for goods, price pressures are easing. The benchmark consumer inflation gauge plunged more than estimated to below the mid-point of the central bank’s target. However, this wouldn’t be the first time that economists have been surprised and it may not open much room to ease policy. So-called core inflation -- excluding food and fuel -- is sticky, the central bank said this month.
India’s currency clampdown won’t impact the nation’s credit ratings, according to S&P Global Ratings. However, the company said Indian corporates and banks will face short-term "execution and adjustment risks."
Fitch Ratings called the demonetization a "one-off event" and said that while the short term hit will be significant, people will find "inventive ways" around the cash crunch. Moody’s Investors Service placed on negative watch three micro-finance lenders, indicating that their ratings may be downgraded.
Data on card transactions indicate plastic is taking the place of currency usage at a faster pace. With the data incomplete, conclusions are tentative, but the analysis strengthens Bloomberg Intelligence Economics’ view that demonetization will not deal a major blow to growth.
A central bank survey of 4,686 respondents also pointed to robust consumer sentiment despite the cash ban. Perceptions of general economic conditions and financial situations have improved, the central bank said Dec. 7, adding that the surveys were conducted between Oct. 27 and Nov. 13 and more data must be analyzed to draw conclusions.
"A puzzle has arisen of late -- why are some activity indicators still in the positive range, albeit slowing, when cash has contracted so sharply?" said Pranjul Bhandari, chief India economist at HSBC Holdings Plc. "One answer might be that growth will be affected with only a lag. Another is that informal arrangements, like vendor credit, have helped to fill the void."
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