Demonetisation will shave off the economic growth for the current fiscal by 0.25 per cent to 0.50 per cent though it will have long-term benefits for the economy by reducing interest rates and eliminating corruption, besides bringing in more activities in the formal sector. The cash squeeze, following junking of high value notes of Rs 500/1000 on November 8, 2016, the Economic Survey for 2016-17 said, “will have significant implications for GDP, reducing 2016-17 growth by 0.25 to 0.50 percentage points compared to the baseline of 7 per cent.”
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The Survey has, however, projected the growth rate for 2017-18 at 6.75-7.5 per cent. For the current fiscal, the GDP growth has been estimated at 6.5 per cent, lower than 7.1 projected by Central Statistics Office earlier this month. It expressed hope that the remonetisation exercise will eliminate cash squeeze by April 2017, while asserting that the adverse impact of demonetisation on GDP growth will be transitional.
“Once the cash supply is replenished, which is likely to be achieved by end-March 2017, the economy would revert to the normal,” the document said. The costs of demonetisation include contraction in cash money supply and subsequent, albeit temporary, slowdown in GDP growth, while the benefits to the economy will be in the form of increased digitalization, greater tax compliance, reduction in real estate prices, increase long-run tax revenue collections and GDP growth.
It further said that effective cash in circulation fell sharply although by much less than commonly believed – a peak of 35 per cent in December, rather than 62 per cent in November since many of the old high denomination notes continued to be used for transactions in the weeks after November 8. The Survey, presented by Finance Minister Arun Jaitley in Parliament today, said that the recorded GDP will understate impact on informal sector as its activities are not fully captured in the Index of Industrial Production.
These ‘contractionary’ effects due to demonetisation will dissipate by year-end when currency in circulation will once again be in line with estimated demand, it said. As regards the impact of note ban on the real estate, the Survey said that the weighted average prices in eight major cities which was already on a declining trend fell further after November 8, 2016.
“It goes on to add that an equilibrium reduction in real estate prices is desirable as it will lead to affordable housing for the middle class and facilitate labour mobility across India currently impeded by high and unaffordable rents,” it said. The Survey also suggested fast remonetisation and especially, free convertibility of cash to deposits including through early elimination of withdrawal limits.
“This would reduce the GDP growth deceleration and cash hoarding,” it said, adding that continued impetus to digitalisation while ensuring that this transition is gradual, inclusive, based on incentives rather than controls and appropriately balancing the costs and benefits of cash versus digitalisation would maximise long-term benefits and minimise short-term costs. It also suggested that following up on demonetisation, the government should bring land and real estate into the GST and reduce tax rates and stamp duties. “An improved tax system could promote greater income declaration and dispel fears of over-zealous tax administration,” it added.