Apocalypse now - Demonetisation execution backlash

India is no longer the same from 820pm on the 8th of November, 2016, when the government withdrew high denomination notes of INR500 and INR1000 as legal tender. following up on the earlier blog on this we now look at the execution part of the decision.

It is hailed as a bold move and to quote Humphery on this :

[How to guide ministers to making the right decisions]

Sir Humphrey: If you want to be really sure that the Minister doesn't accept it, you must say the decision is "courageous".

Bernard: And that's worse than "controversial"?

Sir Humphrey: Oh, yes! "Controversial" only means "this will lose you votes". "Courageous" means "this will lose you the election"!

So as we watch the long queues, one is left with the feeling that perhaps this was more a courageous decision than a bold one!! As mentioned in the earlier blog on this subject, 2019 will tell us if Modi and BjP got this right or not. whether the people will reward them for delivering this sucker punch on those who deal in and hoard black money OR consign them to the history books.

Now coming to what the government could have done.

1. ATM's recalibration: That INR2000 notes were being introduced, was no secret. The  government could have got banks to recalibrate ATM beforehand for their introduction by eliminating 1000 tray in the ATM's - this way ATM's would have all been up and running.

2. Replenishment of ATM's:  This is one place the govt really messed up. The army could have been used in this. ATM's are last replenished around 9-10pm - with the army this could have been a 24hr affair  thereby saving a lot of angst on the ground.

3. Bank deposits/exchange  : All gazetted government department employees should have also been pressed into service in banks in their local areas so that additional points of contact can be created. For eg for each table 30 people per hour can be cleared - assuming 150000 such officers working for 10hours, we have an extra 150000 x 30 x 10 = 4,50,00,000 transactions which would have by now cleared all the exchange problems and the crowds would have by now petered out.

4. NRI's - This is a group of people that the Government has totally ignored (or forgotten?) as they have not been given an option to convert their currencies in the indian embassies abroad or in foreign Branches of Indian Banks. This is something the government should rectify at the earliest as the amount that an individual can hold today abroad of indian currency is INR25000 (corrected - earlier noted as 5000/-) which is close to 400$ per person.

5. foreign travellers - there are umpteen foreigners who have landed in india on the week before the announcement who suddenly have no recourse to exchange their monies. For quite a lot of them it has become an unforgettable holiday - this could have been easily avoided by allowing railway gazetted officers to exchange against proof of their earlier conversion from forex to INR whatever cash they had at one go - this would have been a seamless experience instead of the confusion that one is witnessing in the streets today besides the loss of business from these customers who have only come to spend and have a good time.

6. Domestic travellers - A lot of domestic travellers have also been caught in the wrong foot especially those who have gone on business trips which entail only cash deposits for auctions of certain natural commodities -such people now cant even go back to their places nor use the existing currencies to participate in such auctions etc. The exemptions given to postal, govt services, hospitals etc have to be extended till such time, queues are normalised from the current 3/4hours to under 30 minutes at least.

Unintended consequences:
1. Poor people who have been saving all their lives and are unbanked will end up paying taxes if they have more than 2.5lacs.
2. People without proper knowledge of taxation rules like the telangana woman who committed suicide as she had 50lacs in her house from the sale of her agricultural land. As agri land is exempt from tax - this was a truly sad collateral
3. As the 2000 note does not have RFID tagging this entire process is only a one time clean up process - hence the hawala operators are only biding their time and issuing their own iou's to those who have unbanked monies with a promise to pay over the next few months. of course what cant be exchanged before 31st march 2017 is once and for all lost to the black money hoarder.

Net net, a bold move has been frittered away by some below average planning of the nitty gritties and poor on ground execution which has been the bane of independent india.

Maybe the PM would have been better served by first setting the executive in order before this decision to make the entire economy clients of the friendly neighborhood hawala operator?

you hustle, you deal, you steal from us all....

From the ACDC album in 1990, (money talks) to living within your needs as opposed to living beyond your means for your wants. This is the plague which has been ripping apart all economies the world over and ripping apart all government calculations for their budgets - the scourge of BLACK MONEY , as people find innovative ways to not pay taxes and hence generate black economy and an entire ecosystem that lives off this urge to satisfy all wants.

The moneyed and the super rich or the so called 1% has its money tucked away in overseas money havens whereas the rest are left to potter around in a cash economy ecosystem to beat the taxman.

In this scenario the demonetisation brought in by the Modi government will hit at the core of economic activity and the effect of the same will be seen only when the dec and march quarter service tax returns and TDS returns are filed.

Now for some numbers:
As of Mar'16 there were 1571 crore pieces of  500/- notes AND 633 crore pieces of 1000/- notes. they account for 24.4 percent of the total number of notes in circulation and a whopping 86.4 % of the total value (approx 16.4lakh crores ie 14.2lakh crore) of notes in circulation.
There have been 2.3crore transactions in all banks combined between the 11-13th ie 7.67lakh transactions per day or approx Rs.65000 per transaction in value terms on average.
Amount of value deposited in banks estimated at 1.5lakh crore in the first 3 days - we expect another 7% to have been exchanged - hence taking the value to 1.6lakh crore. that is an approximate 11.5% of the value up for grabs. assuming this continues it will take another 24 days to clear the total value ie only after the 10th of december one can expect the banking system to come to some level of normalcy assuming they work all weekends till then.

So what are we looking at?
1. End of fake currency at least for 8-14months

2. Increased cost of terror financing for another 8-14months

3. Government expects at least 12-15% of the currencies to not turn up ie a straight benefit on the Balance Sheet of the RBI to the tune of 2 lakh crores. Personally i expect this to be closer to .9-1lakh crore of benefit. The value in GDP terms is 1.5% in case of the Govt and in my calculations it is closer to .8% - these values are truly worth the effort. Cost of this exercise to the govt - estimated at 15000crores(.1%of GDP). Cost to the people in lost man hours etc - possibly 27days ie 7.4% of the total year ie a negative impact of 7.4% of the GDP. On the converse the attempts to bring all this money in the mainstream (methods explained below) will result in an increase of close to anywhere between 12% (pessimistic) to 25%(optimistic) to the GDP. NOW this again is significant as the net bump up to the GDP  is between 4.6%-17.6% with a corresponding prorata increase in tax collections - hence the lookout for the service tax and TDS numbers of the next 2 qtr's.

4. Real estate and gold are now dead ducks in the water for a long long time as more and more people in the shadow economy are forced to liquidate over the next few months to meet their many obligations. For eg the bookie who couldnt honour his dues for the bets made on the US elections, to the hawala operator who couldnt make the 2nd leg of the transaction, to the businessman who has loans in cash, to the real estate benami who cannot meet his obligations to his masters, to the money launderer who can no longer continue as the hawala guy is missing and so on and so forth.

5. Indian Jugaad to meet this new reality.
The PM dropped the bombshell of demonetisation at approx 820pm on the 8th of November, by 9pm Biyani of Future retail had sent an SMS telling that his shop will be open till midnight for all those who wish to buy their daily provisions. A visit yesterday showed that a lot of their stocks was depleted and the staff confirmed that one months sale was booked in those 3 hours and since then there has been a relative quiet as 2/3rd of the business was in cash sales - only 1/3rd were card users like me. So the first jugaad was to keep shops open till midnight and in case of jewellers etc they kept it open till the 10th when raids across the country finally forced them to shut shop.
Second jugaad was loan melas organised by politicians and strongmen where monies to the tune of 2-3lacs was given on a interest free basis to the villagers from where the politician/ strongman hails on a pay back after 3years basis. (this is what Modi meant when he said that he would put money in people's hands taken from black money hoarders!!)
Third jugaad is splitting the money into smaller packets of 10k each and getting the same deposited into the accounts of the many jan dhan account holders for a commission ranging between 10-30% depending on how desperate one is -as jan dhan account holders have a limit of 10k per month - hence in my estimation the majority of the people queuing up at the banks are these commission agents of hawala operators. as 4k can also be exchanged each jan dhan holder so identified is clearing out 14k at a time for the operator who get back approx 12k on an average - this is not bad as the first hawala operator to be back in business can charge an obscene commission from the others.
Fourth jugaad is the advance payment of salaries in many companies - or just cash payments and marking the staff as absent for the said days.
Fifth jugaad is investing in high value assets and non-perishable stock items BUT this was only possible in the first 24-48 hours - totally ended after the recent raids.
Sixth jugaad is people like my LPG supplier who billed me on the night of the 8th and shows delivery made on the 11th but is yet to physically deliver the gas!! obviously the poor fellow is trying to get as much of his high denom notes into the bank as possible as he is in the list of exempted services - just like airlines and trains which saw 1400% increase in transactions wherein people are buying tickets for subsequent cancellation - just that airlines have announced that tickets bought with old currency are not refundable!!
There are many more jugaads in process as the people scramble to protect/ save as much as possible of their ill gotten wealth.

So taking all this into account, assuming that 40% of the economy is unaccounted and 60% of this is converted by various jugaad methods we arrive at 24% - assuming that half of this remains in the cash economy, I estimate that 12% will add to the GDP on a net net basis. This calculation to some extent also matches with the calculations in point 3 above.

Political impact:
My first and continuing assessment is that I hope that Modi has not damaged his chances at a 2019 reelection by this move -  that would be more disastrous to the overall Indian renaissance which Modi has embarked upon. of course he can undo this damage by reducing taxes furthur as promised already to 25% from 30%. The last time tax rates were reduced was in '97-98 - so 19years later in the '17-18 fiscal he can get some brownie points after a rather brutal attack on the entire economy in the search for Black money.

Share market:
Going forward we expect interest rates to go down furthur - not very good for retirees as they will get even less going forward forcing some of them to look for employment
Bonds will go up furthur so their bull run continues till maybe end of 2018
Stock will have only way to go and that is up after GST and this attack on Black money, SUBJECT to the new American president policy which we will have an inkling about sometime in Feb'17 - so its more of the same for stocks - wait and watch.

Hit..a miss..or a changed world?

The Surgical strikes carried out by Indian Armed forces, on terror launch pads along the LOC, in POK has all the ingredients for a quick resolution of the Kashmir issue, and the larger Pakistan Army issue in International fora.

This is the right time for Nobel peace laureate Obama to end the hypocrisy of covert American aid to Pakistan and force their army to cede permanent control of the country to its democratically chosen PM. The PM then can close the Kashmir issue by signing a peace treaty and as a sign of his goodwill withdraw troops from Siachin for starters.

If there ever a need for a Nobel effort - it is now, it is now.

Of course the predictable no-peace effort would be to escalate tensions and watch gleefully as the arms industry make a killing in the killing fields.