Demonetisation may increase formal sector share: Ind-Ra

December 06, 2016 - India

Demonetisation coupled with the government’s resolve to promote the digital platform for transactions may gradually increase the share of the formal sector and expand the tax base of the economy in the medium-to long-term, says a recent report. As digital transactions increase, the cash dependent segment will become ‘bankable’ over the medium-to long-term.

The report released by India Ratings and Research (Ind-Ra), a credit rating agency, also states that economic cost of the demonetisation in India is likely to be Rs 1.5 trillion for the fiscal 2017. The disruptions caused due to the de-legalisation of the high currency notes has resulted in a downward revision of the gross domestic product (GDP) growth of India to 6.8 per cent, from the earlier prediction of 7.8 per cent.

The current measures are likely to destroy Rs 4.004 trillion worth of cash held in black money and fake currency, says the report. This constitutes a mere 12 per cent of the black economy in India, leaving 88 per cent of the black money to remain in the system.

Global experience, including that of India in the past has shown that the impact of such measures have been fairly short-lived (India followed the de-legalisation route twice in the past, initially in 1946 and then 1978) as it does not attack/plug the mechanism that gives rise to black income.

The industrial gross value added (GVA) for FY17 after de-legalisation is expected to grow at 5 per cent, lower by 222 basis points (bp) than Ind-Ra’s earlier forecast. The overall GVA is expected to grow 6.9 per cent, 81bp lower than the earlier estimate.

The Ind-Ra report predicts that investment, particularly private investment, will be the most affected GDP component following demonetisation.

“Ind-Ra now expects gross fixed capital formation (GFCF) for FY17 to grow at 2 per cent, down 306bp from our earlier projection. With the decline in cash holdings in the hands of the people and severe restriction in the flow of new cash, consumption demand has also fallen impacting both wholesale and retail sales. Anecdotal evidence suggests that the cash squeeze has reduced sales in the informal sector by 30-40 per cent during the first fortnight following the de-legalisation,” adds the report.

Private final consumption expenditure (PFCE) will grow at 7.5 per cent in FY17, 89bp lower than our earlier projection, predicts Ind-Ra. (KD)