12 to 18 December: The Importance of Being Earnest

Frequent readers will know of our great interest in the plethora of reforms announced by the Modi government in India since 2014 – and of our positive assessment of the economy over the next few years. The most controversial policy, amongst the raft of changes, has been demonetisation. 86% of cash has been removed from circulation in order to help formalise the economy and increase tax revenue (only 1% of Indians pay income tax). Whilst this has created a significant short-term drag on activity, the policy has remained popular and we see consistent evidence that the negative effects will be transitory, with permanent long-term benefits.

Following the Indian example, on the 11th December, Venezuela attempted a similar exercise. President Maduro announced the 100 bolivar note (worth about 15 USD cents and used for 77% of transactions) would cease to be legal tender within 72 hours. However, unlike the Indian example, the measure has descended into farce. New replacement notes were not ready for circulation and there have been riots and looting across the country (which has the highest rate of inflation and one of the highest rates of violent crime in the world). The exchange has now been delayed until the 2nd January.

We think the contrasting outcomes highlight two important features of the Indian economic story. First, for all the criticism of demonetisation, a hugely abrupt change to day-to-day life in India was implemented in complete surprise and with extremely limited social disruption. Whether you believe the strategy is well-placed or not, the government is showing an ability to execute. Second, the Venezuela parallel stresses the great importance of trust and social cohesion in completing structural reform and monetising underlying growth drivers. To the extent the Modi government can remain earnest, retain the faith of its people, and therefore avoid corruption and self-interest, India has the potential to unlock the largest youth population in the world.

The Global Market Update now takes a break for 2 weeks, returning on the 9th January. This week there is a Bank of Japan meeting, with results due on Tuesday.

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