Thursday, October 22, 2020
Home Opinions India's informal Hundi market and how it has suffered a blow post demonetisation

India’s informal Hundi market and how it has suffered a blow post demonetisation

The recent hoopla around declining GDP growth firmly puts blame at the door step of demonetisation. Though the move was controversial mostly among so called liberal elites, armchair economists and of course, the opposition political parties, it paid huge political dividends to Modi government. The reality is, the effects of demonetisation are still unfolding. The initial impact was obviously negative since the move was always meant to be disruptive. But whether it will be positive in long term is yet to be seen.

One sector that definitely got hurt badly was the informal money lending or the ‘Hundi’ market. There are two types of black money – The first kind of black money, the classic black money, generated through bribes. That money does not generate any economic value. It generally stays hidden or in some cases gets flown out of country to Swiss bank. This kind of black money is the worse. It is a true loot of India.

The second type of black money is different. The second type of black money is primarily hidden from the government because of taxation purposes. This money is earned legally and honestly but usually under-‘receipt’ed’. The earners are professionals like Doctors or Architects or businessmen.

Some of these people don’t mind lending it out in Hundi market or the informal money lending sector. The interest rates in Hundi are quite high – 18% on an average and transactions mostly happen in cash. The borrowers usually tend to pay interest on a monthly basis. The market is quite efficient even though the potential to default is high and also it does not have much recourse potential. The lender can lend his own hidden money or pool in money from his circle and front it up to borrowers.

The word Hundi goes back to medieval India. The system can be considered as pre-cursor to formal banking sector. The Hundi is not just lending but also includes cashless remittance. From financing expeditions of Mughals during medieval times to financing grain market transaction during British era, the system lubricated commerce across length and breadth of Indian subcontinent.

Per an article in The Hindu Business Line, the Marwaris were pioneers of Hundi transactions and as the lines of communication and transportation increased during British era, so did the business empires of Marwaris. However, with introduction of formal banking infrastructure in India, Hundi and such similar financial instruments never gained official status.

Per Reserve Bank of India, Hundis are “a part of the informal system, have no legal status and are not covered under the Negotiable Instruments Act, 1881.” Researching on Hundi is not easy and statistics on size and breadth of this financial instrument are almost non-existent. Though RBI mentions about waning of Hundi transaction, the reality is the Hundi market was doing quite well prior to demonetisation.

The obvious question here is, since banking infrastructure is comparatively widely accessible today, why would anyone borrow at such a high interest rate when banks lend roughly at around 10%. The equally obvious answer is because banks literally don’t lend enough money or in lot of cases, don’t lend money at all.

Usually if one has to open a brand new business then banks won’t lend you. They usually require three years of clean and positive balance sheet. That means, the business not just has to be running for at least three years but it should be making money for three consecutive prior years! So, to begin with, the cash is raised through informal means or family money is used. And when expanding in the initial phase, again informal sector is leveraged.

The hundi market black money creates a positive impact on GDP. Businesses get established or are able to expand, generating more cash flows and more jobs. But, all is not positive here. Since formal banking sector is not lending to these businesses, anything’s that not formal and not necessarily legal has hidden costs. Remember the 18% interest? The cost of borrowing has to be recovered, right? So it gets passed on to the service requester or to the consumers indirectly. So, because government doesn’t allow banking to be free of suffocating regulations, the whole society directly or indirectly pays the price. And I am not even adding the lost opportunity costs of the entrepreneurs who couldn’t open their businesses because their business model doesn’t afford them to pay 18% interest!

Demonetisation has impacted Hundi transactions since cash suddenly dried up and became “honest black money”. The cash transactions dried up overnight, so the lending also dried up. The projects in flight or about to get started must have been severely impacted. The effect of this may not even show up directly on GDP growth considering that it’s an informal sector. Plus, projects that did not start would not have any impact on GDP since, but the imprints of it can be seen in consumption pattern.

Government needs to take concrete structural banking and taxation reforms post demonetisation. No, GST is not the answer, not yet at least. GST coupled with lower income tax and simpler income tax would be lot more efficient. (the GST rates are also way to high, but that’s for another topic) Modi government has done great job in increasing banking imprint in rural area  but banks don’t exist merely to manage accounts.

So, the next generation banking reforms should free the banks to lend more freely and yes, to take the positive risk. In India, “Mallya gets loans as much as he wants but the small entrepreneurs are made to pay hell to get even a penny. This needs to change in a structured fashion. Just as economy can not be at the whims of government policy, it shouldn’t be at the mercy of informal lending sector either. If Modi government manages to implement these key reforms, then Indian economy will reach the stratosphere it never imagined in a very short period of time. The Bank Recapitalisation plan, may just be the beginning, in that regard.

  Support Us  

Whether NDTV or 'The Wire', they never have to worry about funds. In name of saving democracy, they get money from various sources. We need your support to fight them. Please contribute whatever you can afford

Related Articles

Trending now

All you need to know about Mohammad Shahabuddin, the dreaded mafia don and once Lalu Yadav’s close aide who made Siwan tremble

The Siwan district, in the 90s and early 21st century, became his fiefdom and Mohammad Shahabuddin was its unchallenged ruler.

Bihar Assembly elections: NDA set to return to power as migrant workers may put their weight behind Modi

From migrant workers crisis to Citizenship Amendment Act - what will sway the Bihar elections

“Islam is in crisis all over the world” and all the other things the French President said

Earlier this month, the French President Emmanuel Macron took the stage at city hall in the Paris suburb of Les Mureaux to deliver one of the most consequential speeches of his career.

October 22, 1947: The day when Pakistan-backed tribal Lashkars invaded Jammu and Kashmir to plunder, rape and destroy

A two-day national symposium on 'Memories of 22 October 1947' is being organised in Srinagar to create awareness among the Kashmiris about the violence inflicted by Pakistan on their ancestors

France: Charlie Hebdo cartoons projected on government building to express solidarity with deceased teacher who was beheaded by Islamic terrorist

Days after the barbaric beheading of teacher Samuel Paty on the streets of Paris by a terrorist for showing the cartoons of Prophet Mohammad to his students, support continues to pour in for the deceased teacher.

Another contempt case? Prashant Bhushan targets CJI Bobde again, links his home visit during holidays with Madhya Pradesh MLA disqualification case

CJI is eligible for state arranged transport during visits to states, but Prashant Bhushan alleged CJI Bobde of taking favors from MP govt

Recently Popular

UK: 37-year-old paedophile named Rehan Baig jailed for raping chickens to death while his wife filmed it

Rhan Baig's wife had also joined him in the videos and at one point he alternated between having sex with his wife and the chickens.

‘Comedian’ Agrima Joshua, who calls herself ‘feminist’, passes offensive sexual comments against woman due to political differences

Agrima Joshua had earlier found herself in a controversy after insulting the Shivaji Maharaj memorial during a performance.

Remember Sheena Bora case? Param Bir Singh was the IG of Konkan range, the site where her body was dumped

Param Bir Singh knew that Sheena Bora was missing. He had asked Rahul Mukerjea to file a 'missing persons' report. Sheena, however, was never reported as 'missing'.

Paris: Two Muslim women stabbed under Eiffel Tower by white women shouting “dirty Arabs”

Two Muslim women were stabbed repeatedly under the Eiffel Tower on Sunday night by two white women who called them "dirty Arabs".

Caught on camera: NCP’s Nawab Malik ‘predicts’ Arnab will commit suicide as he will be ‘trapped’ in TRP case

Maharashtra minister Nawab Malik insists that though the BARC letter clears Republic TV's name, the police investigation 'will find evidence' against Arnab.

No, going to Dubai to buy the new iPhone 12 Pro is not cheaper than buying in India. Here is how

Dhruv Rathee criticised the 'Indian Tax System' by claiming that travelling to Dubai for buying an iPhone 12 Pro is cheaper than getting it from India.
- Advertisement -

INS Kavaratti: ‘Made in India’ ASW stealth corvette to be commissioned into Indian Navy today. All you need to know

INS Kavaratti is the last of the four Kamorta class indigenously built ASW stealth corvettes.

All you need to know about Mohammad Shahabuddin, the dreaded mafia don and once Lalu Yadav’s close aide who made Siwan tremble

The Siwan district, in the 90s and early 21st century, became his fiefdom and Mohammad Shahabuddin was its unchallenged ruler.

Bihar Assembly elections: NDA set to return to power as migrant workers may put their weight behind Modi

From migrant workers crisis to Citizenship Amendment Act - what will sway the Bihar elections

Do you want courts to conduct proceedings from ‘Chaupals’? Delhi HC raps AAP govt for not giving funds to district courts

Delhi High Court raps AAP government withholding funds needed for recruitment in District Courts, issued Rs. 2.5 crore from its own funds.

“Islam is in crisis all over the world” and all the other things the French President said

Earlier this month, the French President Emmanuel Macron took the stage at city hall in the Paris suburb of Les Mureaux to deliver one of the most consequential speeches of his career.

October 22, 1947: The day when Pakistan-backed tribal Lashkars invaded Jammu and Kashmir to plunder, rape and destroy

A two-day national symposium on 'Memories of 22 October 1947' is being organised in Srinagar to create awareness among the Kashmiris about the violence inflicted by Pakistan on their ancestors

France: Charlie Hebdo cartoons projected on government building to express solidarity with deceased teacher who was beheaded by Islamic terrorist

Days after the barbaric beheading of teacher Samuel Paty on the streets of Paris by a terrorist for showing the cartoons of Prophet Mohammad to his students, support continues to pour in for the deceased teacher.

Another contempt case? Prashant Bhushan targets CJI Bobde again, links his home visit during holidays with Madhya Pradesh MLA disqualification case

CJI is eligible for state arranged transport during visits to states, but Prashant Bhushan alleged CJI Bobde of taking favors from MP govt

Shahabuddin was a powerful ‘pawn’ under Lalu-led government in Bihar: Read how he dominated Siwan during the jungle raj

Shahabuddin was fearless because of the backing he got from Lalu Yadav, and in return, he made sure Lalu got votes in the elections

Maharashtra: Uddhav Thackeray government blocks CBI from investigating cases in the state, withdraws general consent

The Maharashtra government on Wednesday passed an order withdrawing its consent for the CBI to probe cases in the state

Connect with us

245,563FansLike
465,747FollowersFollow
18,800SubscribersSubscribe