Economic Survey: Demonetisation To Pull Growth Down To 6.75-7.5% Next Fiscal

The government’s Economic Survey released on Tuesday has projected a growth rate of 6.75-7.5 percent for the economy in 2017-18, while taking note of the impact of demonetisation on near-term economic activity.

The projected growth rate for next fiscal compares with the government’s official estimate of 7.1 percent growth in the current year. The Economic Survey, however, said that growth for fiscal 2017 will be 0.25-0.50 percent below the baseline scenario of 7 percent.

Giving the break-up of growth likely in the current year, the Economic Survey said that the industrial sector is likely to grow by 5.2 percent in fiscal 2017 compared to 7.4 percent in the previous year. The agriculture sector is likely to see strong growth after a good monsoon and is seen expanding at 4.1 percent in fiscal 2017 compared to 1.2 percent last year. The service sector is estimated to grow at 8.9 percent in 2016-17, almost the same as in 2015-16.

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Demonetisation Fallout

Detailing its assessment of the impact of demonetisation, the Economic Survey said that it will have both short-term costs and long-term benefits.

The Survey analysed incoming high frequency indicators like two-wheeler and car sales along with tax collections and noted the following:

• Passenger car sales and excise taxes bear little imprint of demonetisation
• Property markets in the major cities and sales of two-wheelers show a marked decline
• Weakness in credit growth reinforced after demonetisation
• Recorded GDP will understate impact on the informal sector

The decision to withdraw currency notes of Rs 500 and Rs 1,000 was announced on November 8 and led to a withdrawal of 86 percent of the currency in circulation. The currency crunch that followed impacted transaction activity across sectors like retail and real estate, among others. The replacement of currency has been slow. As of January 20, currency in circulation stood at Rs 9.87 lakh crore, according to the Reserve Bank of India (RBI).

“Remonetisation will ensure that the cash squeeze is eliminated by April 2017,” said the Economic Survey.

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The Quantum of Impact

In trying to assess the quantum of impact on growth, the Economic Survey used a model relating money to GDP, which builds in assumptions of the use of cash in the economy and the shift towards digital payments.

Using this model, the Survey assessed that the nominal GDP growth estimate of 11.25 percent for the current year would be impacted by 0.25-1 percentage point. This, in turn, would imply a 0.25-0.50 percentage point hit to the real GDP estimate of 7 percent.

After Demonetisation, What?

Contrary to suggestions that a cash shortage be maintained to push the economy towards digital payments, the Survey said that remonetisation should be completed quickly and that withdrawal limits should be eliminated as early as possible. This would reduce GDP growth deceleration and cash hoarding, the Survey added.

It said that digitisation of payments be continued but added that the transition should be gradual and based on incentives rather than controls.

Importantly, the Survey recommended that land and real estate be brought into the Goods and Services Tax (GST) fold. It added that a reduction in tax rates and stamp duties is essential.

“And finally, an improved tax system could promote greater income declaration and dispel fears of over-zealous tax administration,” said the Economic Survey.

It went on to paint an optimistic picture of the economy over the medium term, should the government be able to capture potential gains from demonetisation and the implementation of the GST.