Impact of demonetisation on GDP growth in India

Since the government of India announced demonetisation of high denomination notes, many theories have said that India’s GDP would fall rapidly. Speaking at an occasion, Dr Bibek Debroy of NITI Aayog said, “If GDP falls it should not be more than 0.1%, which is negligible”. Soon after his statement was crushed, the government announced a drop of 0.5% in GDP, which comes across to 7.1% in FY 2016-17. These statistics are the ‘First Advance Estimates of National income, 2016-17’ based on sectorial data until October, released by Ministry of Statistics and Programme Implementation. No statistics on the effect of banning of Old High Denomination Notes were released.

  • The report states that the agriculture sector has shown growth at 4.1% against the previous year at 1.2%.
  • Livestock products, forestry and fisheries, which comprises 39% of agricultural sector showed combined growth of 3.7%.
  • Mining & Quarrying sector has shown drop of 1.8% as compared to growth of 7.4% in 2015-16. Production of coal grew by 1.6%, production of crude oil dropped by 3.5% and production of natural gas dropped by 3.7%.
  • Electricity, gas and water supply, and other utility services, have shown growth of 6.5% as compared to 6.6% in the previous year. IIP of electricity registered a drop of 0.6%.
  • Construction sector has shown a drop of 1% and will now grow by 2.9% as compared to the previous year at 3.9%. Production of cement has shown growth of 4.3% and consumption of finished steel has shown growth of 3%.
  • Trade, hotels and transport and communication and services related to broadcasting services have shown growth at 6% this year against 9% in the previous year.
  • Passengers handled by civil aviation increased to 19.6% as compared to 16.5% in previous year. Sales of commercial vehicles dropped to 4.7% as compared to 8.1% in the previous year.
  • Financial, insurance, real estate and professional services sectors have shown growth at 9% as compared to 10.3% in the previous year.
  • Bank deposits have shrunk to 9.8% as compared to previous year’s 10.5%, whereas bank credits have rose to 9.1% as compared to the previous year at 8.8%.
  • Public administration, defence and other services sectors have shown growth at 12.8% as compared to 6.6% in the previous year. The Government expenditure net of interest payments and subsidies grew by 25.3%.

The government of India continues to change its statements, and new orders are issued regularly, making people more anxious about their hard-earned money. This anxiety is expected to remain for a long time, affecting the economy. Many economists believed that, if at all, the executive order of demonetisation would eradicate black money and counterfeit notes, yet they do not comprise such a big percentage to take such a big step. Black money is very much stored in the form of real estate, gold, stocks and offshore accounts, rather than cash. People that operate in the informal sector will still be able to use the new high denomination notes and other options to store their wealth. There are no new incentives for people to avoid cash transactions. The withdrawal of bank notes has left consumers without the cash needed to complete purchases and farmers without the funds to buy seeds and fertiliser for the sowing season. Disrupted supply chains and time spent queuing in banks has meant lost hours of productive work. There are uncertainties over the impact on the banking sector. While some banks have reported large increases in deposits since demonetisation began, a surge in low-cost funding might encourage credit growth and support the economy.

Recently, an RTI was filed on the Reserve Bank of India to uncover the reason and the people behind demonetisation. Even as Indian Foreign Reserves decrease every day, they choose to dodge the question. RBI declined to answer the RTI, citing exemption under RTI Act Section 8 (1) (a) and (g), which states that the information cannot be divulged in order to protect the sovereignty and integrity of India, claiming the disclosure of information would endanger the life or physical safety of any person. This statement has sent a shock to the people across India.

Many international agencies have gone on record and quoted that India’s GDP will go down to 6 -7% in 2016-17. Most agencies on an average have cut down GDP up to 1%, including the IMF citing temporary negative consumption shock due to demonetisation. However, every agency is adamant that the country will regain its momentum in the following years and be a robust economy with growth of 7.5% to 8%. Going by the 6.6% growth prediction of IMF, India would still be lagging behind China this year as they are expected to grow by 6.7%.

Post-demonetisation lending rate is expected to come down along with property prices due to liquidity expansion in the banking system, which will help in boosting economic activity. If there is no substantial increase in loans, banks going into loss will have to cut down interest rates drastically, which could also have a negative impact on economy. Credit rating agency Fitch recently said, “The positive effects were unlikely to be strong and sufficiently enduring to support credit profiles. The positive impact on funding conditions will depend on deposits remaining in banks beyond the next few months”. Since demonetisation, 25,000 crore of payments has been done through digital payment systems. People using digital transactions has grown three-fold, but surprisingly, electronic payment systems like NEFT, RTGS and IMPS have seen a sharp drop in the number of transactions.

It is expected that demonetisation may pose a risk to goods and service tax and labour and land reforms. Although the country needs bold reforms to transform the economy, it also needs a tweak in tax slabs, a stimulating fiscal policy and a good budget.

Keshav Raina is a journalist and independent filmmaker focusing on social and developmental issues. When he is not writing, or shooting, he is an avid traveller and has explored most corners of India and several other countries worldwide. Thus, he carries a practical experience of life of the society that we all live in today.