Demonetization : A Boost to Investment Climate

The bold and courageous move by Prime Minister Narendra Modi of ceasing five-hundred and thousand rupee notes as legal tender strikes at the heart of corruption, black money and money laundering. With a single stroke, the Prime Minister has taken action against the parallel economy in the country and encouraged greater formalization of the economic processes.

Corruption is widely recognized as akin to a levy on economic activity and impacts the poor and middle class sections of society disproportionately. It also raises the costs and risks of doing business, and its corrosive nature affects the overall business environment of a country. As Prime Minister Modi said in his landmark speech, black money accentuates inflationary tendencies, which, in turn, push up interest rates and the cost of investments.

Estimates suggest that the underground economy in India extends to as much as half the country’s GDP. It is also believed that tax evasion, money laundering, and other illegal economic activities foster greater inequalities while also detracting from the global competitiveness of the nation. India ranks 76 out of 168 countries in Transparency International’s Corruption Perception Index 2015, a shift up from 94th position in 2013.

Since assuming charge, the Government led by Prime Minister Modi has issued several campaigns to tackle black money such as the agreement with Mauritius, disclosure law regarding foreign holdings of unaccounted wealth, and the income disclosure scheme, among others. Taken together with the recent actions for introducing the Goods and Services Tax (GST), promoting digital financial inclusion through the Jan Dhan Yojana, and expansion of the direct benefits transfer scheme, we believe that this is a transformational step in governance.

Further, the informal economy which largely operates on cash transactions can be discouraged through this measure. With wider use of smart phones, hand-held devices, and the internet, it could be possible to minimize cash transactions, which would allow tracking of unaccounted money.

In turn, this could be positive for extending the tax net and garnering more resources for the Government. Such added revenues would contribute to developmental efforts as also expand social security schemes, thereby helping in the campaign for poverty alleviation and boosting incomes.

Inflationary pressures are likely to subside with this strong action on demonetization of large currency notes. Hoarding and black marketeering would also be discouraged as it is unlikely that the same volume of cash would be able to enter the system in the future.

For legitimate businesses, especially large enterprises, there may be short-term disruption and inconvenience. In the longer term, these would be smoothened out. With more transactions coming online through the GST platform, there would be more incentive to phase out cash transactions.

For small businesses, traders, and farmers, there is need to increase accessibility to formal finance avenues to undertake daily activities. They should have access to banks within convenient distance, to deposit the day’s revenues. Households, especially those in remote areas, should also be linked effectively to banks. The Jan Dhan Yojana, which has opened more than 220 million accounts, would be a big game-changer.

In the initial phase of the transition, there may be a likely impact on deflation, especially in the sectors which see large cash volumes, as the black money is sucked out of the system. Care must be taken that this is temporary and does not become entrenched. One way would be to encourage higher capital investments by public sector enterprises which have available funds.

This masterly measure restores huge confidence in Indian industry that the Government will not shy away from difficult decisions to transform the nation, and will continue to take action on reforms. Indian industry strongly welcomes the move and pledges to assist in its implementation.

Dr. Naushad Forbes,

President, CII, and Co-Chairman,

Forbes Marshall

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