India Is Intentionally Squelching Economic Growth, For A Cause

November 25, 2016 3oliver

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India’s government suddenly declared all 500 and 1,000 rupee notes worthless earlier this month, intentionally sapping its enviable economic growth for who knows how long.

The country of 1.25 billion people happens to be a largely cash economy. President Narendra Modi made the surprise currency announcement ostensibly to stop corruption, counterfeiting and black market commerce, all crimes that leaned heavily on the larger bills. Those bills were 86% of the cash in circulation.

No other country has taken this kind of step so suddenly, making it hard to predict the fallout in India. But analysts forecast a harsh shock wave throughout a fast-growing but still hesitant economy where investment bank BNP Paribas estimates that 90% of transactions are made in cash.

The country’s GDP, which grew at a brisk 7.6% in the latest fiscal year, is on track to take a hit as consumption declines along with government revenues.

These changes will probably last several months as Indians trade old notes, worth about $7.5 and $15, for new ones.

Members of the Communist Party of India shout slogans outside a bank during a protest against Indian Prime Minister Narendra Modi and the withdrawal of high-value banknotes from circulation, in Chennai on November 24, 2016. (ARUN SANKAR/AFP/Getty Images)

“Households and businesses will experience liquidity shortages, which will result in temporarily weaker consumption,” says William Foster, Vice President-Senior Credit Officer at Moody’s. “For corporates, decline in economic activity will lower sales volumes and cash flows. Foreign trade could be disrupted temporarily if business operations rely heavily on cash.”

Removal of the bills would also weaken real estate, one of India’s boom industries. Currency in the black market could take “years” to replenish, hurting property, land transaction volumes and prices, Credit Suisse says in a Nov. 15 research note. That pain will extend to 80% of construction jobs, 60% of cement demand and discretionary consumption, the note says.