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India's Attack on Cash

Prime Minister Narendra Modi’s Demonetization Program has Far Reaching Consequences for the Diamond and Jewelry Trade

Nov 17, 2016 10:02 AM   By Avi Krawitz
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RAPAPORT... India’s shock decision to abolish its higher-denomination currency notes will curb jewelry sales and diamond trading next year. Industry pundits have forecast the unorganized jewelry sector will bear the brunt of a sharp drop in demand as cash – the lifeline of smaller players – has already become a scarce commodity.

The government’s move to scrap INR 500 and INR 1,000 notes struck at the heart of India’s black market. With the volume of those high denominations rising by more than 70 percent in the last five years, the number of fake notes in circulation also soared. The size of the so-called parallel shadow economy grew to a whopping 23.2 percent of GDP in 2007, according to the latest 2010 World Bank survey on the issue.

The demonetization program is aimed at curbing terror financing, smuggling of arms, drugs and the like, and especially to eliminate “black money” in the “parallel shadow economy,” the Finance Ministry explained.

The measures may have been drastic but they were not entirely surprising. Financial inclusion has been a theme of Prime Minister Narendra Modi’s government and there has been a general drive to go digital and cashless from the beginning of his term, explained A.K. Prabhakar, head of research at IDBI Capital.

Many previous governments have failed to tackle India’s black market either due to a lack of political will or ideas that would resolve the issue once and for all.

At the heart of the matter is cash. Large segments of the Indian economy, and indeed its diamond and jewelry trade, rely on cash to navigate the country’s infamous bureaucracy and corruption. Cash has also built up substantially from tax evasion with the bulk of that unaccounted for money sitting in higher denomination notes.

But this cash served an important purpose as it was channeled into various sectors of the economy, lifting aggregate demand across the country. Real estate was probably the biggest beneficiary, while the jewelry industry was not too far behind.

Traditionally, “people would save cash to buy jewelry as they generally don’t use credit cards,” Prabhakar said. “Now they’ll postpone their buying [with cash] as they’re focused on necessities rather than luxury products.”

Following the announcement, jewelers experienced an initial rush into gold. But the spike in demand didn’t last long as jewelry sales plummeted 60 percent in the past week when the notes were no longer accepted as legal tender, Prabhakar said.

Jewelry stocks consequently slumped with PC Jewellers plunging about 26 percent since the November 8 announcement, TBZ down 20 percent, and Titan Company declining 15 percent.

That is even as those larger branded jewelers are expected to benefit from the move in the medium term as they’re better equipped to deal with the changes. The unorganized segment will be hit particularly hard given their large proportion of unaccounted inventory and high proportion of cash sales, analysts at India Ratings wrote. “[We] expect demand for gems and jewelry to decline in the next two to three quarters,” the agency stressed.

It will take at least that long for consumers to adjust to the new system, Prabhakar added. A “distinctly different” INR 500 note and a new INR 2,000 note are being introduced, but measures are also in place to slow their introduction and limit the amount of cash being used (see appendix at bottom).

Business activity has practically frozen since the ban came into effect, as consumers scramble to deposit vast cash savings into their bank accounts and withdraw the limited amount of new notes available (see picture above as long lines at ATM's have persisted this week).

Liquidity is tight as those higher value notes reportedly accounted for about 85 percent of money in circulation. Furthermore, there are generally limitations set on credit card purchases and high fees attached. It will be some time before the circulation of a large volume of new denomination notes are embedded into the system and for the unorganized players to get their houses in order.

Therefore a drop in diamond trading is expected as those smaller jewelers will pull back from buying diamonds and gold due to their lack of liquidity. That will affect the smaller-sized polished suppliers who are the ones selling polished to the unorganized local jewelry market, often in INR 500 and INR 1,000 notes. The larger companies are generally focused on exports and deal in dollars, implying they are somewhat shielded from the current chaos.

Still, the liquidity freeze could influence a global slowdown in demand for lower color and clarity polished and in very small melee stones. India is, after all, the third largest consumer market for diamond jewelry, with those goods typical in the market.

There may be a knock-on effect in the rough market, again impacting smaller manufacturers and rough dealers.

Already, the move was felt at the De Beers November sight. Sightholders noted trading and premiums on the secondary market initially firmed during sight week but they later softened as Indian dealers pulled back after the demonetization announcement. This was especially noticeable in smaller goods, which are bought and sold with cash, wrote Dudu Harari, of diamond broker Bluedax, in his sight report.

Only time will tell if the demonetization program will leave an indelible mark on the rough market. Strong jewelry sales during the U.S. Christmas and Chinese New Year seasons will likely mitigate the impact of a subdued Indian market.

But diamantaires will note the continued trend restricting cash in the market. They’ve seen different steps taken before this by other governments, the banking sector and even industry players, largely to crackdown on money laundering. This column will outline those efforts and their impact in the coming weeks.

For now, it’s worth noting India’s attempt to legitimize its economy is necessary and admirable. But it will almost certainly negatively impact diamond and jewelry sales next year, if not beyond, as cash has emerged as the greatest luxury of all.


The following measures are in place during the transition phase, as updated on November 14:
  • People have until December 30 to deposit their old notes into their bank accounts, with pensioners allowed an extension to January 15. 
  • There’s a INR 4,500 ($66) limit on the amount of old notes that can be exchanged over the counter for legal tender; 
  • A cash withdrawal limit has been set at INR 24,000 ($353) a week;
  • The amount of cash that can be withdrawn from an ATM stands at INR 2,500 ($37) per day;
  • Business entities which have been operational for more than three months can withdraw INR 50,000 ($736) per week. “This will enable small businesses to pay wages to their workers and make sundry payments,” the ministry explained.
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Tags: Avi Krawitz, Cash Attack, De Beers, Demonetization, diamonds, India, jewellery, Jewelry, Modi, Narendra Modi, pc jewellers, Rapaport, TBZ, Titan Company
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