Demonetisation move taken by Prime Minister Shri Narendra Modi has been welcomed warmly across the globe by various scholars, economists, politicians and even numerous businessmen. IMF, Bill Gates, China, Various world leaders and Chairperson of various well known banks have already praised and congratulated Narendra Modi for his bold move. Let’s look why demonetisation move by Narendra Modi is being considered a masterstroke by think tanks.

Reasons why demonetisation is a great move by Modi:-

  • Demonetisation will help to boost base and savings. Global agencies have estimated the size of the parallel economy in India at close to 23% as of 2007. On the basis of this report, scholars estimate unaccounted cash in the economy to the tune of Rs. 4500 billion, of which a certain significant proportion will make its way to the banks.
  • It is expected that the banks’ deposit base will receive a fillip of 0.5-1.4% of GDP.
  • Financing savings may rise by close to this proportion due to switch from savings from unproductive physical assets to financial assets.
  • This move will also help to improve monetary transmission and reduce lending rates. This sudden rise in deposit base and savings will allow banks to lower the blended cost of funds as higher CASA (current accounts, savings accounts) deposits help to replace the high cost of borrowing and lower overall cost of funds. Scholars expect that banks may reduce deposit rates by ~125 bps over the next six months.
  • The new regime of Marginal Cost of Funds based Lending Rate will take into account the lower cost and thereby it will lead to a decline in lending rates that will boost economic activity in the medium term.
  • It will also create room for further monetary accommodation. With improved monetary transmission, economic efficiency and structural moderation in currency in circulation, there is likely to be a greater room for the Reserve Bank of India to ease monetary policy rate further. Think Tanks hope that the RBI will surely ease by another 100 bps in 2017-18 to a repo rate of 4% by March 2018.
  • Demonetisation will help to kick out fake currency in a single stroke which is its one of the greatest benefits.
  • It will also force most of the people who have hoarded huge amounts in the houses to either deposit that currency into banks or burn them.
  • It will also have a positive impacts from a bond market perspective. Improvement in bank deposit base leads to higher SLR (statutory liquidity ratio) demand. On the supply side, with tax buoyancy seeing an improvement, supply of g-secs will get more rationalized due to gradual reduction in fiscal deficit over period as the impact of Fiscal Responsibility and Budget Management Act (FRBMA) is underway.
  • Rise in GDP growth potential may be another benefit that scholars think we will witness soon.

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