How the CEA assessed the note-ban shock

The first official assessment of the impact of demonetisation on India’s growth came in the Economic Survey 2016-17. According to Chief Economic Adviser to the Finance Ministry Arvind Subramanian, also the key architect of the Survey, the assessment of this monetary shock was partly technical and partly intuitive.

“Money and income have a certain relationship and it also depends on the quantum of cash and non-cash in the economy,” he told BusinessLine .

The Economic Survey, which has a full chapter on demonetisation, has also worked out a model to assess its impact. “The day I was thinking of how to do this I had breakfast with (economist) Paul Krugman and I told him my model and he said this was exactly the way he would do it…what is the monetary shock, what percentage of the economy is based on cash and what is on non-cash, and how do you think it will change,” he added.

The Survey estimates 0.25-0.5 per cent reduction in real GDP growth relative to the baseline estimate of about 7 per cent in 2016-17. The Central Statistics Office in its first advance estimates released in January had not factored in the impact of demonetisation had estimated the economy to grow at 7.1 per cent in 2016-17. The CSO is set to release its second advance estimates on February 28. Subramanian further said, “The contrast I want to make is, for example, the CSO said it will not assess the impact of demonetisation and I respect that. But when the decision comes out of uncertainty and because there are many assumptions to be made, I have less sympathy as it is almost as if you are not willing to put yourself out there...How can you ignore the biggest shock out there?”

On growth projections in Budget 2017-18, Subramanian said, “I can guarantee that the nominal GDP estimate is very realistic.”

Noting that the overall tax revenue to GDP ratio is declining, he said apart from personal income tax, which is on the rise, corporate and indirect tax revenues as well as non-tax revenue are declining.

“In the indirect taxes collections, there will be no oil bonanza and so revenue will go down. Also, this will be the first year of implementation of GST. The underlying nominal GDP ratio is not unrealistic at 11.75 per cent. I think that with inflation at 4.5 per cent and growth at 7 per cent, it is on track,” he added.

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