The Reserve Bank of India (RBI) has said the precise impact of the withdrawal of specified bank notes of Rs 500 and Rs 1,000 on the economy “may be difficult to capture at this stage” and the disruptions in the cash-intensive sectors of the economy are likely to be transitory.
Reserve Bank Governor Urjit Patel said the withdrawal of bank notes will impart far-reaching changes and transform the domestic economy going forward. “The measures such as transition to the nationwide goods and services tax (GST) and the withdrawal of legal tender status of specified banknotes (SBNs) could potentially transform the domestic economy, notwithstanding some inconvenience to public and the momentary adverse impact on growth,” the RBI said in its Financial Stability Report.
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“It (demonetisation) is expected to significantly transform the domestic economy in due course in terms of greater intermediation, efficiency gains, accountability and transparency through increasing adoption of digital modes of payments, notwithstanding the short-term disruptions in certain segments of the economy and public hardship,” Patel said in his remarks in the FSR report. “Overall, there is little room for complacency and it is important to guard against sporadic volatility in financial markets.”
According to the RBI, the immediate financial impact of withdrawal of SBNs, announced on November 8, 2016 was a surge in bank deposits with a commensurate fall in currency in circulation. “In terms of macroeconomic impact, there is a dampening effect on inflation with a temporary loss of momentum in the growth of real gross value added (GVA). The Reserve Bank has revised downward the GVA growth for 2016-17 to 7.1 per cent from 7.6 per cent, with evenly balanced risks.
Downside risks to GDP growth in the near term persist through short-term disruptions in economic activity in cash-intensive sectors amid withdrawal of legal tender status of SBNs, it said. “In the interim, policy measures to sterilise the impact of excess liquidity resulted in higher investment in government securities by the banking system and a fall in Reserve Bank’s investments in government securities as also credit to commercial banks,” the RBI said.
According to the RBI, the withdrawal of legal tender status of specified bank notes could potentially transform the domestic economy. While the overall risks to the corporate sector moderated in 2016-17, concerns remain over its recovery. “Further, the initiatives for encouraging the use of non-cash and digital payments and withdrawal of legal tender status of specified bank notes, accompanied by changes in income tax rules are expected to result in a shift away from the significant dependence of Indian economy on cash-based transactions,” it said.
While the spillover of global events to the domestic economy may continue to be significant, reduced policy uncertainty, along with tax and legislative reforms will help in realising the benefits from the strong macroeconomic fundamentals, it said.