< Previous | Contents | Next >
5. AFTEREFFECTS OF DEMONETISATION
(i) Curbing corruption;
(ii) Counterfeiting of currencies;
(iii) Checking terrorism (as they use high denomination notes); and
(iv) Preventing accumulation of black money.
There have been reports of job losses, declines in farm incomes, and social disruption, especially in the informal, cash-intensive parts of the economy. However, a systematic analysis is not possible yet due to paucity of data. The benefits of demonetisation can be only felt in coming years—the move was more aimed at long-term goals than short-term. We may have a brief review
about the impact of demonetisation on the economy and behavioural aspects in the following way.
Long-term benefits: It is too early to quantify the direction and magnitude of long-term changes. It will take several years to see the impact of demonetisation on illicit transactions, on black money, and on financial savings. But there are some signs pointing to change.
(a) Digitalisation: One intermediate objective of demonetisation is to create a less-cash or cash-lite economy. This will not only channelise more saving into the financial system but it will improve tax compliance also. Currently, India is far away from this objective: the Watal Committee has recently estimated that cash accounts for about 78 per cent of all consumer payments. According to Pricewaterhouse Coopers (2015) India has a very high predominance of consumer transactions carried out in cash relative to other countries (accounting for 68 per cent of total transactions by value and 98 per cent by volume).
People prefer cash transaction due to many reasons. It is convenient, accepted everywhere, its use is costless for ordinary people (though not of course for society at large), is anonymous, helps preserve privacy, which is not bad till it is not illicit or designed to evade tax. Digitalisation can broadly impact the three sections of society—the poor, who are largely outside the digital economy; the less affluent, who are becoming part of the digital economy having acquired Jan-Dhan accounts and RuPay cards; and the affluent, who are fully digitally integrated via credit cards.
(b) Real estate: This sector could have profound impact. In the past, much of the black money accumulated was ultimately used to evade taxes on property sales. A reduction in real estate prices is desirable as it will lead to affordable housing for the middle class, and facilitate labour mobility across India currently impeded by high and unaffordable rents.
Short-term impact: Demonetisation will impose short-term costs on the economy, which remain difficult to measure by now due to lack of the right data set. As the process has created a large structural shock, the underlying behavioural parameters of the past will be imperfect indicators of future behaviour and hence the outcomes. Although a framework of the short-term
impact may be outlined:
(a) Impact on Gross Domestic Product (GDP): Economic activities have been affected adversely. Thus, national income will get hit also, but it will be only temporary. The GDP might be lower by 0.25 to 0.5 per cent (coming to around 7 per cent). The implementation of GST, follow-up to demonetisation and other structural reforms should put the growth to the 8–10 per cent range that India needs.
(b) Redistribution of income: It will redistribute resources also having following effects on the fiscal accounts of the Government:
• RBI/Government may receive some gains from the unreturned cash
—wealth gains.
• Income taxes could go up as black money was deposited in bank accounts.
Against this there are three negative effects. First, costs of printing new notes; secondly, costs of sterilising the surge in liquidity into the banking system (via issuance of Market Stabilisation Scheme bonds); and thirdly, if nominal GDP growth declines, corporate and indirect tax revenues of the centre could decline but so far there is no clear evidence.
The Government needs to maximise the long-term benefits and minimise short-term costs of demonetisation. For this purpose, the following measures look beneficial:
(i) Remonetisation process should be faster.
(ii) Any windfall revenue arising from ‘unreturned notes’ should be used for capital-type expenditures and not revenue ones. As this income will be one-off, its use should be one-off.
(iii) Digitalisation must continue in medium term, though neither it is a panacea nor cash economy is bad. Balancing benefits and costs of both forms of payments will be sensible. The transition to digitalisation must be gradual and inclusive, too. Digitalisation must be incentivised and the incentives favouring cash neutralised. The cost of incentivisation must be borne by the public sector (Government/RBI) and not the consumer or
financial intermediaries.
(iv) Efforts to collect taxes on newly disclosed (and undisclosed) wealth should not lead to tax harassment by officials at all rungs of the hierarchy. A shift is needed to greater use of data, smarter evidence- based scrutiny, more reliance on online assessments with less interactions between tax payers and tax officials. Non-punitive means should be evolved to enhance tax compliance.
(v) So that demonetisation indeed proves a catalyst for long-run changes in behaviour, it will be required to complement demonetisation with other non-punitive, incentive-compatible measures that reduce the incentives for tax evasion. Demonetisation was a potentially powerful stick that now needs carrots as complements. A five-pronged strategy could be adopted:
(a) GST should include activities that are sources of black money creation—land and other immovable property;
(b) Individual income tax rates and real estate stamp duties could be reduced;
(c) Income tax net could be widened gradually and, consistent with constitutional arrangements progressively encompass all high incomes;
(d) The timetable for reducing the corporate tax rate could be accelerated; and
(v) To reduce discretion and improve accountability, tax administration needs improvement.
The actual cost of demonetisation will be known by the end of the fiscal 2016-17 only. While the short-term gains of it will be limited in nature, the success of this move will be mainly known by its long-term effects. However, to maximise the gains out of this, the Government needs to take several other timely and rational steps to complement it. Thus, the momentum generated should not get reduced so that economy can realise the gains from demonetisation.