Modi's speech: Demonetisation is well-intentioned, but how short is short-term?

The key takeaway from Prime Minister Narendra Modi’s speech at the National Institute of Securities Markets (NISM) campus near Mumbai on Saturday is his reiteration that the NDA-government doesn’t think that demonetisation is an accident.

The government is willing to pursue it till the end irrespective of the difficulties it may face in dealing with the after effects of this massively disruptive exercise and what the critics say. "Let me make one thing very clear: This Government will continue to follow sound and prudent economic policies, to ensure that India has a bright future in the long run. We will not take decisions for short term political point scoring. We will not shy away from taking difficult decisions, if those decisions are in the interest of the country. Demonetisation is an example. It has short-term pain, but will bring long-term gain,” Modi said at the inaugratin of the NISM campus.

Narendra Modi. PTI

This is a clear message to his political opponents and critics that the government wouldn’t go back from what it has begun on 8 November. PM Modi’s comment comes not long after severe criticism on demonetisation from known global names such as Steve Forbes called it an "immoral and sickening move" and “a massive theft of people's property” and Wall Street Journal, which dubbed demonetisation "India’s bizarre war on cash" and essentially cautioned the government that it shouldn’t force cashless transactions on its people.

Modi has faced criticism at home as well. But, his speech on Saturday tells us that the prime minister isn’t perturbed with any of these. He is willing to risk the after effects of the note ban including a severe cash crunch that is persisting even after a month and half of the currency ban, negative impacts on the economy and reported job losses in the informal sector, as well as signs of public patience diminishing faster than in the initial days.

As the prime minister said in his speech, the government is willing to face the risks and is betting big on the long-term gains of the demonetisation. The prime minister’s statement isn’t difficult to understand given that he has invested too much of personal and political goodwill in the decision to pull out 86 percent of currency in one go on 8 November. There is no going back from this decision since it can become the admission of a political defeat.

Since 8 November, the note ban has been presented as a bold, personal political move to the public by the prime minister rather than as an economic reform originating from the government or the central bank, Reserve Bank of India. But, the other side of this is that by not admitting the serious flaws in the implementation of a well-intentioned move and harping on a 50-day deadline to end the pain of demonetisation, the PM is also running a risk of inviting more public anger should he fails to keep his promise of 50-days and keep ignoring the ground realities.

The fact is that there is still considerable pain on the ground which might last very well beyond the "short-term". No one, including RBI, seems to have a clear idea of how long will the cash crunch last. Till now, the RBI has managed to infuse only a fraction of the Rs 15.4 lakh crore currency demonetised by the scheme. It might take a few more months before things turn normal. As Indiaspend points out in this article, Modi’s 50-days deadline is likely to fail. Here, instead of repeating that the pain is only for short-term, the prime minister would have done well if he admitted that the impact of currency ban will probably last longer than the government had initially anticipated, thus giving a realistic assessment of the current situation. Such a move would have helped him gain more public support.

In his speech Modi also touched upon some crucial, but long-discussed, issues concerning capital market reforms such as deepening the municipal corporate market, routing long-term funds from the bond market to fund long-gestation infrastructure projects and ways to translate the growth in capital markets to gains for rural India. The remark on deepening the municipal bond markets should be seen in the backdrop of government’s smart city programme, which requires large revenue sources one of which is tapping the municipal bond market.

Modi also hinted at tweaking laws concerning gains from capital market gains. “Those who profit from financial markets must make a fair contribution to nation-building through taxes. For various reasons, the contribution of tax from those who make money on the markets has been low. To some extent, it may be due to illegal activities and fraud. To stop this, SEBI has to be extremely vigilant. To some extent, the low contribution of taxes may also be due to the structure of our tax laws. Low or zero tax rate is given to certain types of financial income.”

Similarly, the mention on reinventing the derivative product segment to benefit farmers is a message to the market regulator, SEBI to think of ways of working on new products. “People say that derivatives can be used by farmers for reducing their risks. But in practice, hardly any farmer in India uses derivatives. That is the fact. Unless and until we make the commodity markets directly useful to farmers, they are just a costly ornament in our economy, not a useful tool...SEBI should work for closer linkages between spot markets like e-NAM and derivatives markets to benefit farmers," Modi said.

The prime minister yet again made it clear his idea of reforms when he said that his "aim is to make India a developed country in one generation". In other words, what this means is that his government believes in massive disruptions to bring about large changes in the country rather than following the method of gradual transformation. It tells us that one should expect more big bang announcements in the remaining two and half years of his tenure. For sure, demonetisation wouldn’t be the last surprise.