One year of being 'Trump'ed and De'Modi'tized
November 8th, 2016 was a momentous day which many globally as well as in India will never forget.
Donald Trump won a landmark election on November 8th, 2016 and went on to become the 45th President of the United States of America. NarendraModi made a landmark decision effective November 8th, 2016 to demonetize 86% of India’s currency in circulation.
Both the events created significant uncertainty in the economy and markets. There was also significant expectations that got built around on the outcomes of these changes.
November 8th 2017 will mark a year and it is a good time to look at a few data points to determine the actual economic outcome and its impact.
Donald Trump campaigned a lot on Infrastructure, Job creation, Tax cuts and there were expectations of what economists call ‘Reflation’ - a term not defined in the dictionary but meant to signal a sort of rebound in economic activity out of recession. He of course also campaigned heavily against Obama Care and Immigration and wanted to Build the wall but we will restrict our scope to economic parameters.
The Reflation story very quickly played out in the capital markets. US 10 year bond yield rose sharply (on fears of inflation on fiscal spending), Global Commodity prices increased (Infrastructure demand), the US Dollar depreciated (fiscal stimulus) and stock market factored in higher growth (well.. does it need a reason any more..) Some of those fizzled out as the talk was not followed up by action.
Like the USD 1 trillion infrastructure spending plan has seen little allocation by the Federal Government. Similarly Trump has signed in many legislative Bills (most by any president in the first year, he claims) but very few have been passed into legislative actions. So more Tweet and fewer Teeth should summaries Trump’s first year and his impact on the market and the economy seems to have waned for now.
PM Modi’s Demonetization move was a huge shock to the system. Never before has 86% of a country’s currency in circulation being withdrawn at one go. It was thus an extremely bold move with major economic and political implications.
The immediate reaction was from its expected impact on black money. PM Modi’s initial speech focused on the aspect of Black money, Fake currency, Terror financing which needed to be tackled through demonetization.
Government’s own estimate (which they filed with the Supreme Court) was that close to 30% of the currency withdrawn will be deemed worthless as the holders won’t be able to prove its source and hence won’t be able to deposit the currency back into the banks.
But Indian entrepreneurial ingenuity ‘Jugaad’, which helped create the Black Money in the first place, went on an overdrive in those 50 days to help deposit 99% of the currency withdrawn back into the banking system.
The supposed outcome of lower currency in the system, thefiscal benefit of extinguished currency and higher taxes from the money deposited has not played out. The two income disclosure schemes thus far haven’t borne much fruit. It also indicated the reality that ‘All Cash is not Black and all Black is not held in Cash’ The government sensing the ‘Jugaad’ espoused the narrative of a move to a Cashless Economy. Demonetization has indeed hastened the adoption of cashless means of transactions and has likely also spawned newer business and technologies that will further increase cashless transactions.
Currency/GDP though is inching up indicating use of cash increasing. The spurt in electronic/ wallet/mobile transactions is also tapering off… though it will settle at much higher levels than earlier.
Demonetization impacted economic growth which the recorded numbers will never capture appropriately as the informal sectorand the daily/casual labourer bore the brunt and the economy is still recovering from that impact. The government though has data on the deposits made during the period and the activities in those accounts since then, which they can mine to target and claim more taxes. The overdrive against corruption and black money is also seen by the de-registering of more than 200,000 shell companies many of which could have been used to launder money during demonetization.
The Banks and the Bond markets were indeed the key initial beneficiaries but the impact of demonetization is wearing off as we complete one year. Especially so in the bond markets, with the 10 year bond yield at around the same level as it was prior to demonetization. Bond yields did fall towards 6% but the sentiment reversed on the falling prospects of fiscal benefits and excess tax collection. The RBI too had to suck out liquidity through issuance of MSS bonds and OMO Sales which further impacted bond yields. The Slower economic growth post demonetization has impacted normal tax collection thus leaving the government to stare at a breach of the fiscal deficit target further worsening sentiment in the bond markets.
Banks another beneficiary got cheap funds with currency held with public turning into bank deposits which helped them cut lending rates faster than may have been the case. The excess liquidity in the system though has reduced and we anticipate that excess liquidity will come back to neutral by December 2017 and that currency in circulation will also inch towards the pre-demonetization mark sometime in the first half of next year.
Indian stock markets have been on an upswing post the initial down move with demonetization maybe triggering an increase in the inflows into domestic mutual funds that have out invested the foreign investor and ensured that the stock market makes new highs despite not so encouraging economic data.
Overall data pointsthough do point to the fact that the immediate benefits of demonetization has not played out as expected and the short term economic impact cost more than outweighs the benefits. We have to wait and see if the longer term expected benefits from lower black money generation and higher cashless transaction do materialize.
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