Q1: RBI came out with a report
saying that 99.3 per cent of the banned currency has come back. This has
led to a debate where on one hand opposition is saying that demonetization
hurt the economy by decreasing GDP and on the other hand government is
claiming that it led to formalization of economy and more tax
collection. After nearly two years, how do you see the demonetization exercise?
Does the benefit of demonetization outweighs its negative affects?
A1: As I had said from day one, the
economic costs of demonetization would be higher than the economic benefits.
The data that has come out so far confirms that analytical prediction. I am not
in position to evaluate the intangible benefits and costs of Demonetization.
Q2: Opposition leaders had predicted
a GDP growth reduction of 2-3%, what do you think?
A2: I had forecast a GDP growth
reduction of about 0.5% for the full year, with an absolute upper limit of 1%
of GDP. I have formally estimated the loss in a working paper as 1.2% points in
the two quarters following demonetization, ie a total loss of 0.6% of ful year
GDP. This is very close to my original estimate.
Q3: Were there any benefits of
demonetization?
A3: in my initial analysis I had
identified three potential benefits of de-monetization. One the immobilization
of black money held as cash. Two, the increased income tax compliance and
reduction in tax evasion & bureaucratic corruption. Three the reduction in
black money in real estate. I had written that we would have to wait for data
to quantitatively evaluate each of these.
There are straws in the wind about
increased formalization of transactions & financialization of savings but
there’s insufficient data/ evidence to link them to demonetization.
Q4: What is your evaluation, given
the data published in the RBI annual report and the data put out by the
CBDT/Dept of Revenue?
A4: The RBI report shows that 0.7%
of demonetized notes did not return to the RBI. This compares with a number of
1.8% during the demonetization of 1978. If this is taken as a measure of the
immobilization of the black money held in cash, the performance was 60% less
than last time. In my judgement this is due to the increase in corruption in
the Public Sector Banks over 40 years and its demonstration effect on Private
sector banks. In the absence of reliable data on corruption, it provides an
estimate of the deterioration in public sector banks ie corruption was 60%
higher in 2016 than it was 40 yrs earlier.
Part of cash was, however, deposited
in 1,48,000 accounts, with an average deposit of Rs. 3.3 cr. Some of this will
prove to be tax evasion subject to taxes & penalties. We don’t yet know how
much!
Q5: What about the gains in
Personal Income tax compliance?
A5: CBDT data shows that both the
number of income tax declarations and income declared for tax have increased.
Income tax buoyancy with respect to nominal GDP has increased from 1 in FY15
& FY16 to 2.45 in FY17. This is higher than the 1.5 seen earlier in FY14.
GST was introduced in July 2017 and there was consequently a lot of uncertainty.
This likely had a negative or negligible effect on income tax declaration in H1
of FY18. Its still unclear how demonetization and GST interacted jointly on
income tax decelerations in H2 of FY18.
Q6: Has there been any effect on
black money in the Real Estate sector.
A6: There was an expectation that
one of the collateral benefits of demonetization would be the reduction of
black money in real estate. The only data we have to indicate such reduction is
the ~30% reduction in prices in Mumbai & Delhi markets post-demon. There
were also some indication that the traditional black-white ratio in
transactions has gone down. It’s not clear however how long lasting this effect
was. There has however been a general effect on speeding up the digitization of
the economy.
Q7: Indian Rupee has fallen to a new
low after crisis in Turkey's Lira. What is the reason for weakening of
Rupee when Indian economic is much stronger than Turkey?
A7: The most important driver of
depreciation of EME currencies has been the appreciation of the US dollar
against the index. There is also some apprehension about the effect of planned
US interest rate rises on Emerging market economies dependent on capital
inflows to finance deficits. Given our high dependence on oil imports, the impending
imposition of Iran sanctions, its effect on trade deficit is also of some
concern. As these are one-off factors, Rupee is likely to stabilize after some
adjustment.
Q8: What is reason for FPI capital outflow?
Is Indian market not as attractive?
A8: Historically short term
movements in Exchange rate of rupee are linked to fluctuations in capital
inflows. Besides the global factors mentioned above, fluctuations are also
driven by expectations of political developments and politically driven Fiscal
excess. It’s therefore very important for Govt to maintain it’s responsible
fiscal stance during this period before the elections.
Q9: Fall in Rupee is expected to
increase exports and imports. So what do you think overall what will
be net impact on economy of fall in Rupee?
A9: The Sharp appreciation of the
Real effective exchange rate (REER) of the rupee during 2017 was one of the
factors, along with GST refund problem, for the slowing of export growth. The
depreciation of the REER during 2018 has corrected much of the problem. It will
therefor be a positive factor for export and help contain the current account
deficit.
Q10: Moody's has said that due to
increase in oil prices there is risk that India might not meet its fiscal
deficit target for current fiscal? How do you see?
A10: Besides the global factors
mentioned above, capital inflow fluctuations are also driven by expectations of
political developments and politically driven Fiscal excess. It’s therefore
very important for Govt to maintain it’s responsible fiscal stance during this
period before the elections.
Q11: Current account deficit is also
expected to widen this fiscal. Should it worry policy makers?
A11: Any rise of the Current Account
Deficit above 2.5% of GDP always requires careful monitoring. However, to the
extent it’s driven by oil price rises, it is usually followed by increased
demand for imports from oil exporting countries & higher remittances from
our citizens employed there. This is a lagged effect which should help moderate
the rise.
Q12: Do you expect government
curtailing its expenditure due to GST revenue being less than expectation,
increase in oil subsidy (LPG and kerosene) and MSP. What will be its
impact?
A12: With the decontrol of petrol and
diesel prices, the direct effect of oil price rise on Govt deficit is limited.
The rise in Kerosene subsidies is manageable. There will also be some
offsetting increase in revenues, given the effect on oil prices on inflation.
Govt expenditures are manageable as long as no major new schemes are
introduced.
Q13: Do you see rise in inflation
due to high fuel prices and MSP and as a result RBI hiking interest rates?
A13: Inflation has in fact moderated
due to easing of food prices, though higher MSP may keep these prices from
falling further. Average CPI inflation is likely to be between 4.5% & 5%
during 2018-19. Good Monetary Policy is designed to moderate inflation, not to
raise it, so I would be surprised if RBI raises real rates precipitously.
Q14: Is there any risk of government
taking populist measure before 2019 Lok sabha elections?
A14: There is always such a risk
before elections. But this Govt has already laid out its programs, among which
the health insurance program is the most ambitious. I am hopeful that it will
be phased in carefully without raising the fiscal deficit sharply before the
election. There is also some concern about the potential rise if fiscal deficit
of States!
Q15: What impact do you see of the
ongoing trade threats being made by US on India?
A15: The sanctions associated with
CAATSA and Iran sanctions are part of the external risk factors for India. The
effects of the latter are already in the market & were discussed above.
Uncertainty about the former will hopefully be resolved in the 2+2 dialogue.
Q16: How do you see the Indian
economy in 2018-19
A16: The Indian economy is now
firmly back on its medium term growth path. This expectation is based on the
recovery of fixed investment during last four quarters, the restoration of
private consumption to its trend, and the renewed hope on export front. GDP
growth in 2018-19 is likely to be 7.5% +/- 0.25%.
---------------------------------------------------
References:
Arvind Virmani, "Growth Prospect: Deceleration, Demonitization & GST " http://dravirmani.blogspot.com/2017/09/growth-prospects-deceleration.html
Arvind Virmani, "Deceleration, De-Monetization and GST: Growth Prospects and Policy Solutions," Working Paper No 2/2017, September 2017. GrowthDeceleration2017sep.docx .
Arvind Virmani, "Investment: Corporate India and Indian Households," Working Paper No. 1/2018, June 2018.
Data
Appendix: Income Tax Collections
Year NomGdpGr IncTaxGr
2011 20 % 14 %
2012 16 % 18 %
2013 14 % 19 %
2014 13 % 20 %
2015 11 % 10 %
2016 10 % 11 %
2017 11 % 27 %
Data
curtesy Nilesh Shah:
Note: A version of this interview by Praveen Bali, appeared in the with Asian Age((http://www.asianage.com/opinion/interview-of-the-week/020918/data-confirms-economic-cost-of-demo-was-higher-than-benefits.html
) , Deccan Herald.
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