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Time to celebrate

Modi's demonetisation drive holds out the potential to transform India's economy for the better in several ways

Time to celebrate

Congratulations! Your approach to life, taxes and savings stands vindicated today. Am I puzzling you? Think about it. What would be the impact on you, as a mutual fund investor, of the great demonetisation? The biggest would be that your approach to life and savings stands vindicated today!

Since you invest in mutual funds, you are very likely the kind of person who pays taxes. For decades, you have felt like a fool as those who don't pay taxes appeared to be enjoying the best of life that was partly paid for by you. These people, who are freeloading on your money, are citizens of nowhere. They don't even know what the word citizen means.

Now, things have changed. We, the honest ones, those who pay our taxes and invest in all-white, productive avenues like mutual funds, have an unprecedented advantage - the man at the top is someone like us. He hates the tax-cheating freeloader as much as we do. He has taken an enormous step - something that puts at risk his own political future - to decisively damage the Indian black economy.

How will all this affect our mutual fund investments? Apart from the temporary inconvenience of having to exchange the notes, the downstream effects are all yet to come and are mostly unknown. All that we know for certain is that there is huge panic among businesses that use cash for much or most of their operations.

In my view, the biggest impact will come from the second-order effects of this move. The potential cost of holding black money has now become much higher. Earlier, when I would say to a black-oriented businessman that it's better to pay 30 per cent and then have the freedom to do what you want with the money, they would consider such advice stupid. Now, the game has changed. You can keep Rs 100 cash and invest it in something like real estate. Alternatively, you can pay tax, invest the remaining Rs 70-90 in something that is long-term productive, like an equity or balanced mutual fund and earn good returns that are legitimately tax-free after one year.

Which is the better option? Until now, someone could argue that the former is the better option. However, the sustained real-estate stagnation of the last few years, coupled with demonetisation has changed this situation. The person who has paid taxes and is now investing in a long-term tax-free avenue, like mutual funds, has turned out to be the much smarter one.

There's such a deep culture of tax-cheating in our country that this truth will take some time to sink in. Or maybe, with the kick that Narendra Modi has given on their behind, tax thieves will see reason quickly. Meanwhile, there will be a host of immediate side effects of the demonetisation. One will be a large uptick in tax collections. A certain amount of money could just disappear as the owners will be unable to find a legitimate way of exchanging it. Downstream effects, aided and abetted by the GST, will be a further positive.

One of the more unpredictable impacts could be on the advantage that small businesses have always had in India. At least some of this advantage rests on not paying taxes. With GST and full income tax, will organised business now have the upper hand? And if so, how much? These and many more questions will be answered only in the future. Meanwhile, let's applaud this audacious step that Narendra Modi has taken.