India:Demonetisation failed to push household savings
Reserve Bank of India in Its annual report, as well as tallying the result of demonetisation, provided a breakdown of savings by households, a category that includes small and unregistered enterprises. It turns out that net financial savings for the fiscal year that ended March 31 were 7.1 per cent of overall disposable income — less than the average for the five years prior to demonetisation
The Indian central bank’s final tally of Prime Minister Narendra Modi’s 2016 demonetisation drive, intended to take money derived from tax evasion out of circulation, showed that 99.3 per cent of outlawed high-value banknotes had been returned. That’s a severe loss of face for officials, who had argued that holders of the cash would rather destroy it than return it to banks, providing a windfall for the government.
The authorities managed to produce several other defenses of the initiative, however. One in particular was appealing to financial markets: The notion that, in Finance Minister Arun Jaitley’s words, “demonetisation appears to have led to an acceleration in the financialization of savings.”
Households that traditionally kept their savings in cash would now prefer to put the money into other instruments, perhaps even the stock market. This would increase the amount of capital available for companies to deploy and banks to lend, spurring economic growth.
There certainly were some indicators to support the idea. For one, Life Insurance Corp. of India saw a 142 per cent increase in premium collection in the month demonetisation was carried out. And Indian stocks have been on a record-breaking run, even though foreign investors were net sellers so far this year.
Unfortunately, the Reserve Bank of India punched a hole in that hypothesis, too. Its annual report, as well as tallying the result of demonetisation, provided a breakdown of savings by households, a category that includes small and unregistered enterprises. It turns out that net financial savings for the fiscal year that ended March 31 were 7.1 per cent of overall disposable income — less than the average for the five years prior to demonetisation.
Worse yet, perhaps, households are keeping far more of their net savings in cash, not less. And their net savings going to banks are almost 50 per cent lower than the five-year average before demonetisation. In other words, the idea that the crackdown would leave banks flush with household savings that they could lend to productive parts of the economy has been comprehensively debunked.
What’s going on? Some have argued that lower interest rates are the problem. That’s not an easy sell: Over the past year, India was one of the few countries with strongly positive real rates — and savings in bank deposits were a higher fraction of disposable income back in 2012-14, when Indians were dealing with negative real interest rates.
Perhaps, instead, a change in behaviour is responsible. For most Indians, the defining experience of demonetisation was losing access to their bank accounts: We had to stand in long lines at ATMs, and our withdrawals were strictly rationed. In contrast, those who had piles of old banknotes appeared to be able to change them (at a black-market-determined discount) with ease.