An Year after Demo
Truth is that the positives outweigh the negatives of demonetization
On November 09th, India completed a full one year since demonetization was implemented. While the ostensible reason for demonetization was the eradication of black money from the economy, the jury is still out on the subject. There have been negatives but there have been some bigger positives from demonetization. For the time being we need to put the politics aside and purely focus on the economics…
Yes, there was a cash crunch…
To be fair, there is no denying this reality. The GDP growth took a hit of nearly 150 bps and the SME sector bore the brunt of it. Sectors like cement, construction, micro finance and consumer goods were the worst hit due to the cash crunch. The cash crunch did force factories to go slow on their inventory plans and that had a negative impact on the IIP numbers and the manufacturing PMI. The cause-effect relationship was quite clear. Working capital cycles of corporates got adversely impacted due to delays in collections. At the same time, the treasurers also became more cautious of committing too much of their funds into inventories. The cash crunch played on the manufacturing growth and that in turn played on the liquidity. The net effect was a clear compression in growth for around 2-3 quarters. However, the first green-shoots of a recover are already visible. The Q2 GDP data could be the key going ahead!
Digitization did get triggered…
While the stated purpose of the note ban was to crunch the black money in the system, it had another positive impact altogether. The near ban on cash transactions led to rapid adoption of digital transactions like use of credit cards, use of net banking and of course the use of mobile wallets like Paytm. One can argue that the cash economy will return as a result of remonetization but that is missing the point. The combination of financial inclusion and digital spread has created the right platform for digitization of money. We can see that explode in the next few years and that will be the big take-away from the demonetization.
Equity MF AUM
The sharp rise in AUM is gratifying but also brings challenges…
The month of October 2017 saw new heights reached by Indian mutual funds in terms of assets under management (AUM). The overall MF industry touched an all time high AUM of Rs.21.40 trillion ($330 billion), of which nearly 1/3rd was in terms of equity fund collections. This sharp rise in equity AUM has created a real counterweight for the FPIs to the extent that FPI selling did not really have any negative impact on the Nifty levels. However, the question is why is this surge in equity MFS happening and whether it is sustainable?
It is about the TINA factor…
A lot of retail investors are investing in equities largely because there is no alternative. Debt yields are drastically down and debt is seen as less efficient in tax terms. Real estate, which was a preferred destination for retail investors, has come under the lens of the tax authorities after the passage of the RERA and the clampdown on benami properties. Retail investors are also getting wary of gold as the government has already imposed limits on gold holding per family. The highly popular endowment plans of insurance companies are also under the scanner as these are likely to lose their allure once they shift from the EEE basis of taxation to the EET basis of taxation. So, effectively what is left for the retail investors are equities and that is where most of the retail money is now going. Equity funds are the obvious magnet.
There is an interesting argument as to why retail and small investors prefer the equity funds route. While there is a good bit of flows coming from HNI investors, the sharp increase in the number of active SIPs is indication that the retail is adopting equity funds in a big way. That is good news from a long term wealth creation perspective.
Twin Challenges
SMEs and Agriculture could be the 2 big challenges for Modi…
As the Modi government completes 3½ years in power, the preparations for the next general elections in 2019 are already under way. Along the way, there are going to be key state elections in Gujarat, Karnataka and Rajasthan but the larger picture will be still focused on the general elections. As the discussion centers around its achievements on the economic front, there are two key challenges that the Indian economy will really have to contend with. These are problems we are intuitively aware of and the data has also been broadly suggestive of the problem. But the big worry is that both these have larger economic, social and political implications unless they are addressed on a war footing. The first pertains to agriculture and the second pertains to SMEs and small businesses…
There is a crisis in agriculture…
The government had promised to double farm incomes across India by 2022. What we have seen is the combination of weak agricultural performance and negative pricing implications. To be fair, the government has tried to address the problem at a very macro level by substantially expanding the investment in rural infrastructure and through greater spending on agriculture. That has surely had a trickle-down effect as is evident from the pick-up in demand for consumer goods. But the big issue of agriculture product pricing is still not addressed.
Currently, the Mandi (market) price of most of the Kharif cereals and pulses like paddy, maize and Tur Dal are below the minimum support price. While the government has announced the MSP, there is no mechanism to enforce it. It is estimated that farmer could incur a loss of Rs.36,000 crore due to lower product prices. If the minimum profit assured by the government is considered, the loss to farmers could be as high as Rs.2 trillion. That only means more bank defaults by farmers going ahead. That is an issue that the government must focus on as farms still employ more than 50% of the Indian population.
There is real pressure on SMEs…
That is a big worry as SMEs provide the chunk of the employment in the unorganized sector. The social and political implications could be much larger. It could be partly due to GST and partly due to demonetization. But the numbers speak for themselves. The credit ratio (upgrades/downgrades) has touched a 5-year low of 0.97 in the first half of this fiscal. That is largely due to the pressure on their finances that the SMEs are experiencing. We have already seen delays in repayment by SMEs and measures like GST could only worsen their situation. This is the second sensitive area that the government needs to urgently focus on. At the end of the day, it is all about the mass economy and that is the challenge!
