10 Important impacts that demonetization will have on our economy
The epic ban on 500 and 1000 INR currency notes has taken the country by storm. All we see everywhere are long ques infront of banks, people waiting for hours to get their currency exchanged or deposited, so on and so forth. While all this is taxing and tiring at times, but the bigger question is that is all this worth the trouble.
Well, to dig deeper into this situation, we have compiled a list of possible outcomes of this decision. These are the outcomes that will have a lasting effect on our economy in the long run, so please read on.
1. Uprooting the parallel economy
This historic move is primarily expected to remove black money from the economy as they will be blocked since the owners will not be in a position to deposit the same in the banks. This move will stall the circulation of large volume of counterfeit currency at least for some time and will curb the funding for anti-social elements like smuggling, terrorism, espionage, etc. We can already see these effects taking shape from people with black money throwing currency into rivers like Ganga and Yamuna. There is also a downfall in the terrorist activities in Kashmir valley. All this and more has been credited to the withdrawal of 500 and 1000 INR currency notes from market.
2. Impact on money supply, short term and long term
With the older 500 and 1000 Rupees notes being scrapped, until the new 500 and 2000 Rupees notes get widely circulated in the market, money supply is expected to reduce in the short run. To the extent that black money (which is not counterfeit) does not re-enter the system, reserve money and hence money supply will decrease permanently. However gradually as the new notes get circulated in the market and the mismatch gets corrected, money supply will pick up.
3. Impact on banks
Since, the 500 and 1000 Rupee notes which now cease to be legal tender are to be deposited or exchanged in banks (subject to certain limits). This will automatically lead to more amounts being deposited in Savings and Current Account of commercial banks. This in turn will enhance the liquidity position of the banks, which can be utilized further for lending purposes. This will definitely enhance the cash flow for the banks and markets both.
4. Impact on Prices
One major impact of this is going to be seen in cases where the goods are priced on the basis of demand. Price level is expected to be lowered due to moderation from demand side. This demand driven fall in prices could impact two major categories i.e; Consumer goods and Real Estate. Consumer goods prices are expected to fall only marginally due to moderation in demand as use of cards and cheques would compensate for some purchases. Real Estate and Property prices in this sector are largely expected to fall, especially for sales of properties where major part of the transaction is cash based, rather than based on banks transfer or cheque transactions. In the medium term, however the prices in this sector could regain some levels as developers rebalance their prices (probably charging more on cheque payment).
5. Impact on Demand
Now that we have seen the impact on prices due to changing demand, the overall demand is expected to be affected to an extent. The demand in following areas is to be impacted
particularly for sectors like Consumer goods, Real Estate and Property, Gold and luxury goods where people used to use cash for transactions.
6. Effect on the GDP
Gross Domestic Product (GDP) is the broadest quantitative measure of a nation’s total economic activity. The GDP formation could be impacted by this measure, with reduction in the consumption demand. However with the recent rise in festival demand is expected to offset this fall in overall impact. Moreover, this expected impact on GDP may not be significant as some of this demand will only be deferred and re-enter the stream once the cash situation becomes normal.
7. Increase in usage of Online Transactions and alternative modes of payments
With cash transactions facing a reduction, alternative forms of payment have seen a surge in demand. Digital transaction systems, E wallets and apps, online transactions using E banking, usage of Plastic money (Debit and Credit Cards), etc. will definitely see substantial increase in demand. This should eventually lead to strengthening of such systems and the infrastructure required. This has been seen as one of the driving factors to propose this change
8. Impact on other economic entities
With cash transaction lowering in the short run, until the new notes are spread widely into circulation, certain sections of the society like Agriculture and related sectors, Small traders, SMEs, Services Sector, Households, Political Parties, Professionals like doctor, carpenter, utility service providers, etc. and Retail outlets, etc. could face short term disruptions in facilitation of their transactions. These segments are expected to have the most significant impact post this demonetization process and the introduction of new notes in circulation because the nature, frequency and amounts of the commercial transactions involved with these sections of the economy necessitate cash transactions on more frequent basis.
9. Impact on black money hoarders
The driving force behind this historical decision was to eradicate black money. A recent study had pegged India’s black market economy at over Rs 30 lakh crore or about 20 percent of total GDP. This is even bigger than the GDP of countries like Thailand and Argentina. Hence, this historic decision will surely impact the black money hoarders and will surely bring the economy back on track slowly and gradually.
10. Impact on political parties
With nearly five state elections in 2017, demonetization has stunned political parties. Especially, in large states like Punjab and Uttar Pradesh, cash donations are a huge part of “election management” this is a big move. In one stroke, big parties will find themselves hamstrung as cash hoards are often undeclared money. Parties will have to completely rejig campaign strategies in light of expected cash crunch.