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March 2017

Demonetization in India: Four Months On


  • On November 8th 2016, Indian Prime Minister Narendra Modi announced de notification of INR 500 and INR 1,000 currency notes in an attempt to reduce corruption and circulation of unaccounted money (‘black money’) in the system. The two denominations accounted for 86% of all the money in circulation.
  • In response to the move and further weighed down by negative EM sentiment following the outcome of the US election, Indian equities sold off 10% until the end of the year. After bottoming out on Dec 26th, Indian equities have subsequently rebounded 16% and are trading above levels seen prior to demonetization as data points to a more modest slowdown that was feared.

What has been the impact?

  • The exercise was characterized as one of many steps aimed at curbing corruption and the black economy and furthering the government’s related desire of promoting digital banking and financial inclusion. In essence, we believe the move had two objectives – reducing the stock of black money and improving tax compliance on an ongoing basis. We attempt to assess the degree of success of each of these.
Reducing the stock of black money
  • Of the INR 15 trillion worth of notes that were de-notified, initial estimates suggested INR 2.5-3.0 trillion worth of old currency notes were not likely to be deposited, as it was felt that people may not be able to explain the source of unaccounted income.
  • In reality, almost the entire amount is estimated to have been deposited into the banking system as per media reports1. Consequently, the objective of reduction in the stock of black money does not seem have to been achieved.

Improving tax compliance
  • What it has done is provide tax authorities a wealth of data on income for individuals and businesses. This has resulted in notices to 1.8 million bank account holders for explanations in instances where significant deposits were made.
  • While this in itself does not necessarily mean complete disclosure of income going forward, it would be hard for these individuals/businesses to go back to under-reporting income to the same extent. Hence, we are confident tax compliance would improve from the previous low levels.
  • We believe the move, coupled with the implementation of the unified Goods and Services Tax (GST) this year, has the potential to make it harder to evade taxes due to enhanced intelligence at the disposal of the tax authorities as well as GST’s advanced IT infrastructure enabling matching of invoices.

Impact on the economy
  • The pace of re-monetization (printing of new notes) has been faster than originally anticipated and INR 12 trillion worth of new notes have already been released into circulation2. Limits on cash-withdrawal have been removed by the central bank and there are no longer any queues at cash points, indicating a return to normalcy.
  • The GDP growth rate for the December quarter positively surprised market participants at 7%. The methodology entails extrapolating organized sector growth in order to approximate the growth of the unorganized sector, which has been more adversely impacted. Hence, we believe the number is likely to get revised downward in subsequent months as more accurate data becomes available.
  • That said, while the economy undoubtedly witnessed some degree of slowdown in growth, it was nowhere close to what was initially feared, which has led to a sharp rebound in earnings estimates as well as stock prices this year3.

Anecdotes from corporate India

  • A biscuit manufacturer had seen urban business grow in single digits and rural business in high double digits prior to demonetization. In mid-November, company management expressed concerns around a steep decline in retail sales ranging from -40% to -70%. The company ended the December quarter with 2% volume growth, compared with 7% in the previous quarter. Subsequently in February, the company announced an improvement in demand but expected normalcy in growth rate to return in next 3-6 months.
  • A large carmaker said that bookings and sales of their products which had dipped significantly in November were back up in December. Bookings were down 20% in November year-on-year, but December saw a 7% rebound and the recovery has sustained going in to 2017.


  • We remain positive on the long term benefits of the move in the form of a smaller informal economy, increased tax compliance, a higher tax-to-GDP ratio, lower fiscal deficit, lower inflation and also potentially lower interest rates.
  • We believe the expected implementation of Goods and Service Tax (GST) from July 1st, 2017 could be a big structural boost to the economy as benefits accrue over time.
  • We continue to focus on bottom-up, stock selection based investing and find a considerable number of opportunities, especially in the domestically-oriented industrial, consumer, financials and building materials sectors, which should benefit from increased operating leverage as growth continues to pick up. Additionally, we’re finding interesting ideas in sectors where organized players are gaining market share through improved competitiveness relative to unorganized competitors.
  • Given the market is trading at ~16.9x NTM P/E3 around historical average, we continue to believe it is an attractive entry point into what is the early stages of an earnings growth cycle.


GSAM Fundamental Equity Team

The broad team of over 100 investment professionals brings a global reach and perspective to the investment process across nine offices worldwide. 


February 2017
India Union Budget 2017: Rural Impetus with Fiscal Prudence

India’s Finance Minister Arun Jaitley presented the Union Budget on February 1st, 2017. This sought to outline the direction and pace of the government’s economic policies for the coming year.

Q1 2017 | Global Equity Outlook
From Low Growth to Pro-Growth

Our Fundamental Equity Team examines the shifting macro environment and its complex implications for equity investors.

November 2016
India Update: Demonetization

In a surprise move, the Indian government de-monetized INR 500 and INR 1,000 currency notes on Nov 8th 2016 in an attempt to reduce corruption and circulation of unaccounted or black money in the system. The move has been characterized as one of many steps aimed at curbing corruption and the black economy and furthering the government’s related desire of promoting digital banking and financial inclusion.


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