BY DR SUSMITA DASGUPTA
Demonetization is a simple act of drawing out of circulation currency notes usually of higher denominations from legal tender. It is a measure which is used by the governments either to flush out fake currency notes, or to track black money or even to change the currencies, for instance, local currencies to a regional currency like the Euro for member nations of the European Union. The present demonetization in India by which currency notes of denominations of INR 500 and INR 1000 have been withdrawn as legal tender has arrived with another episode – cash has been drawn out of the economy and instead the government insists that transactions should be done through cashless forms of cheques, credit and debit cards and mobile transfers.
Curtailing of cash in the economy takes out the medium of circulation of goods & services produced and exchanged in the economy. While cashless transactions for consumers of final goods and services are fine, for industries in which goods are purchased as inputs for further processing, and especially commodities like steel, which are intermediate goods for further processing, cashless transactions are disasters. Commodity trade across the world takes place in terms of cash and especially so fuels & minerals, agri commodities & metals; without cash transactions, these commodities are at risk of not being produced at all. Credit cycles for fuels and minerals are very short, at the most a single quarter and cashless payments stretches the cycles of transactions and thereby disrupting the rhythm. Clearly then, it is not so much the fact of transacting with cashless instruments which is the problem, but the moratorium on the volume of cash that will back the cashless instruments which is pushing an economy running on current cash transactions into deferred credit payments. This would see thesteel industry not only cash strapped but debt laden as well, leading us to the anvil of total closure.
On the 13th of December 2016, a month after demonetization, Tata Steel issues a statement in the Livemint stating that small scale and rural industries are likely to take a big hit due to the evaporation of cash in the economy. 1 The Times of India reports on the 18 th of November 2016 by saying that demonetization will have an adverse effect on manufacturing especially those which are commodity producers, like steel. 2 J.R Financial reports that demonetization will have the impact of the economy shrinking as cash is essential for circulation of goods. 3 The construction sector is likely to decelerate mainly because it is labor heavy and labor needs to be paid wages in cash. The scrap market in Howrah, the largest in Asia is shut in the absence of cash. 4 And amid all of this, the big steel players are all set to raise steel prices with effect from January 2017 as if to compensate through margins what is lost in terms of volumes. 5 Needless to say that those who look towards price increases are the large producers with captive mines and large end users who can sustain credit for a longer time than the small players.
Let us now observe major impact of cashlessness on the steel industry. To the best of my mind, the impact of going cashless is not going to be similar for all steel plants. Those producers who can sustain longer credit like the large plants will gain at the cost of the small plants, many of who will face total closure. For the stand alone steel plants, which must buy inputs from other suppliers and must therefore sell soon enough to cover credit will face difficulties and even death. We may turn into a steel shortage country from being a steel surplus one and no wonder the large players, especially Tata Steel and SAIL, are looking towards hiking steel prices to take advantage of the steel shortage created by demonetization. Raw materials like iron ore and coal, steel scrap and refractories that ride on the back of cash are likely to become cheaper, though less available as well. Those who have their own sources of such materials and can absorb the costs through internal trade will fatten profit margins, while those who do not have their own supplies will starve and eventually succumb to cashlessness. We see a rise in the economic inequality, oligopoly and stagnation in the steel industry in India and the dreams of increasing production securely set back by many years.
Imports will be badly hit and those dependent on imported inputs will suffer. These include the processing units who buy hot rolled coils for downstream processing. We are likely to see a deep shortage in such steel processed products especially our galvanizers who are the best segment in the steel industry and globally the most competitive. The galvanizing sector in India has been the most competitive segment in the industry and it is likely to be the worst hit due to demonetization. The producers of the hot rolled coils, namely the large steel producers are likely to be protected because importers no longer have the cash to import cheap. It is true that the slew of protectionist measures against free trade namely anti-dumping, safeguards and the recent imposition of the Minimum Import Prices have favored the large integrated plants and gone against the interests of the smaller plants. Now, cashlessness is a natural protection when imports will invariably peter out. Cashlessness will protect the large steel producers of India against cheap imports.
Will those standalone producers quietly die off in the manner of martyrs? Will they not fight and make attempts to survive the demonetization? Of course they will and their strategies for survival will constitute much of the future of the Indian steel industry. It is likely that the importers will tend to import against credit, sell steel in whatever cashless manner they can and then eventually transport the payments to their foreign suppliers and encash currency abroad. The payments are likely to be settled abroad in foreign currency with the value of the Indian rupee plummeting into unfathomable depths. But more pertinently than the drop in the value of the Indian rupee, what will be worse is the economic drain of wealth through cashless transactions being settled in cash abroad, away from India. This is exactly the phenomenon which Dadabhai Naoroji wrote about as early as 1878 and then again in 1901 in his essay, The Economic Drain of Wealth in his large book called Poverty and Un British Rule in India published in London and presented before the British Parliament.
Let us follow the chain of events; the steel production will be badly hit due to the withdrawal of cash out of the economy especially since steel depends on various input cycles with short credit terms and those which need immediate settlements. Steel production is likely to be concentrated amid those who can afford to have longer credit cycles, most probably the plants with greater degrees of integration. This will create asymmetries in steel production, with rise of oligopolies and higher prices though lower volumes of markets. Higher prices will create space for imports and which will then be done through credit with money settled in currency abroad leading to a drain of money from India through the aegis of the Indian steel industry.
The author is Joint Chief Economist with Joint Plant Committee (JPC), Ministry of Steel. The views expressed are her own and do not necessarily represent the views of JPC.
Source: Steel 360 Magazine Jan’17 Issue