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Demonetization inflicted unwarranted damage to economy: Ind-Ra

India Ratings and Research revised its GDP forecast for FY17, saying it will fall 97 bps to 6.8% from the earlier estimate of 7.8%.

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Traders sitting idle at Azadpur Mandi where the business is badly hit due to demonetization, in New Delhi on Monday.
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The government's move to demonetize Rs 500 and Rs 1,000 bank notes from the economy on November 8, has caused "unwarranted damage to the economy," India Ratings said in a recent report. 

The subsequent damage caused to the economy has even led the ratings' agency to lower their GDP estimate for FY17. Ind-Ra lowered its GDP growth forecast for FY17 to 6.8%, down 97bps from the earlier estimate of 7,8%. 

The report noted that while the move was necessary "to root out the black money from the system, it will destroy Rs 4 lakh crore worth of cash held in black money and fake currency. This constitutes a mere 12% of the black economy in India, leaving 88% of the black money to remain in the system. Past experiences of demonetization in India (firstly in 1946 and then 1978), shown that the impact of such measures have been fairly short-lived.

The demonetization move took out Rs 14 lakh crore from the system (in value terms). So far, the banks have received Rs 8.11 lakh crore in the form of deposits of old Rs 500 and Rs 1,000 notes, according to RBI data. According to government data, till December 3, banks had already received deposits of Rs 9.85 lakh crore. While the move was to eradicate black money and stem terror funding, its execution has led to chaos across the country and tight liquidity with the people. Business and trade has suffered in the absence of high-denomination notes, and many experts have said that the country's GDP in the next two quarters and for the fiscal, will take a hit. 

Most vulnerable sectors

According to the report, the Gross Value Added (GVA) from all broad sections namely agriculture, industry and services will show less growth than the  previous year, which is around 222 bps lower at 5% compared to last year. Services sector GVA will grow at 9.2%, 21 bps lower; the impact of the move on the agricultural sector is likely to be limited, with growth slowing only by 5 bps to 2.9% compared to last year. The overall GVA is likely to grow 81 bp lesser at 6.9% than its estimate.

Gross Fixed Capital Formation (GFCF) is likely to be the most affected with growth slowing by 306 bps to 2.0% for FY17. Investments, particularly in the private sector which has already remained low for the past several quarters, is likely to be worst hit by demonetization, the report said. "According to anecdotal evidence, less money in the hand has reduced the sales in the informal sector by 30%-40%," it added. Therefore, Ind-Ra expects private final consumption expenditure (PFCE) to now grow at 7.5% in FY17, 89 bps lower than its earlier projection.

The report said, "the government’s resolve to promote the digital platform for transactions will gradually increase the share of the formal sector and expand the tax base of the economy in the medium-to long-term. De-legalisation of the high value currency will create financial and transactional history of the informal/cash dependent segment, making them ‘bankable’ over the medium-to long-term."

 

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