Demonitisation : Pros and Cons

Demonetisation will significantly disrupt economic activity and lead to weaker growth in near-term

There will be a loss of wealth for individuals and corporates with unreported income, as some will choose not to deposit funds back into the formal financial system to avoid disclosing the sources of these funds.

In the immediate period, demonetisation would significantly disrupt economic activity, resulting in temporarily weaker consumption and GDP growth.

Households and businesses will experience liquidity shortages as cash is taken out of the system, with a daily limit on the amount in old notes that can be exchanged into new notes.

Corporates will see economic activity decline, with lower sales volumes and cash flows, with those directly exposed to retail sales most affected.

 In the long run it can boost tax revenues and translate into faster fiscal consolidation.

Positives for Banks

Will give impetus to digital/cashless economy

The number of income tax payers has increased after demonetization. During the period of 09.11.2016 to 31.03.2017, 1.96 crore returns were filed as compared to 1.63 crore returns filed during corresponding period of FY 2015-16 and 1.23 crore returns filed during corresponding period of FY 2014-15.

Banks would benefit significantly from a move towards digital payments, given their role as intermediaries for such transactions. Rising bank deposits could lower lending rates, a positive for the banks.

In the nearer term, however, the asset quality will deteriorate for banks and non-bank finance companies, as the economic disruption will significantly impact the ability of borrowers to repay loans, in particular for the loans against property, commercial vehicles and micro finance sectors.

A prolonged disruption could also have a more significant impact on asset quality, as both corporate and small-and medium-sized enterprise customers have a limited ability to withstand a sustained period of economic weakness.

In the medium term, the impact on businesses will depend on how quickly liquidity returns to the system and transaction flows are restored. The government could prevent the same amount of cash returning into the system, in an effort to increase the use of non-cash transactions and digital payments.

This would improve the overall operating environment for doing business in India — by improving the ease and speed at which payments reach manufacturers and reducing corruption — but would prolong the economic disruption.

However, consumption in India is still largely cash-driven, and a move towards digital payments would require a likely gradual change in consumer habits.

Demonitisation will not impact major and minor terror attacks as terrorists can be paid in new currency

Counterfeit currency will stop for some time. But in long term, terrorists will find way to counterfeit new currency.