Prime Minister Narendra Modi, in his Independence Day address, spoke triumphantly about how demonetisation drove ₹3 lakh crore of unaccounted money into the banking system. The Reserve Bank of India (RBI) is still counting old notes, and unaccounted money cases are ongoing. Thus, this number is at best a guesstimate, and cannot be taken seriously.
For the facts, turn to the mid-year Economic Survey II, tabled in Parliament deliberately on the last day of the monsoon session, ensuring no discussion. The Survey states that GDP growth will miss the targeted 6.75% to 7.5%. This is a massive understatement. Examine this quote from the Survey: “A number of indicators — GDP, core GVA (GVA excluding agriculture and government), the Index of Industrial Production (IIP), credit, investment and capacity utilisation — point to a deceleration in real activity since the first quarter of 2016-17, and a further deceleration since the third quarter.” The Survey thus confirms that demonetisation ambushed a slowing economy. Consequently, core GVA, i.e. private business activity, dropped steeply from 11% in March 2016 to 4% in March 2017.
The Survey shows how demonetisation devastated the informal sector, using two-wheeler sales as a proxy indicator. These dropped steeply for two quarters after demonetisation. Construction, which absorbs migrant labour, was also badly hit. The Survey thus supports the Opposition’s argument that Finance Minister Arun Jaitley’s “record” allocation for MGNREGS merely reflects displaced migrant workers returning to villages and exercising their right to social insurance.
Demonetisation badly affected farmers’ incomes resulting in a loss of demand, lowering food prices. Consequently, inflation has hit lows below the RBI’s targeted band. Low inflation levels come at a human cost — farmers and those in the informal economy are losing their limited purchasing power.
Additionally, hasty implementation of the Goods and Services Tax (GST) has paralysed the informal manufacturing sector which lives on the edge, often saddled with debt. Protests in the textile hub of Surat reflect how GST is affecting medium, small and micro-scale enterprises. Formalisation of the economy should not shut down businesses and extinguish livelihoods. Similarly, leather, another labour-intensive sector, is in trouble due to restrictions on cattle slaughter.
Overall, there is concern that the economy is in a deep hole, the opposite of what the government would have us believe. It has entered the “Modi Slump”. Banks are not lending. In the year ending March 2017, credit growth plunged to 5.1%, lowest in 60 years. The private sector is not borrowing and the manufacturing sector is operating at a historically low capacity utilisation of 70%. The latest IIP shows a contraction of 0.1% in June 2017.
Neither credit nor investment will increase until the government addresses the “twin balance sheets” problem. Fixing these should have been top priority. Sadly, the Modi government’s early focus was on undoing the 2013 land acquisition law instead of addressing non-performing assets (NPAs). Bank lending is the lifeblood of the economy but government inaction has brought investments to a halt. In March 2014, NPAs were ₹1,73,800 crore. Today they are about ₹7,79,163 crore. Instead the government talks up foreign investment (only 2-3% of GDP) or aggressively lobbies the RBI to cut interest rates, which is unlikely to achieve much.
As State governments find their fiscal space narrowing, private investment falters, and demand slows, we are entering a deflationary environment. Still there are fiscal policy measures that the Union government can deploy. It can belatedly share the benefits of low oil prices by cutting excise duties on petroleum to give people and businesses more spending power, boosting demand.
Destroying, not creating
On the most important indicator — jobs — we are seeing job destruction! The Centre for Monitoring Indian Economy reports that 1.5 million jobs were lost during January-April 2017. Ignoring his own promise of creating two crore jobs a year, Mr. Modi exhorted jobseekers to become job creators. But international experience, for example in developed OECD (Organisation for Economic Co-operation and Development) countries, shows self-employment is only about 15% of total employment. Most Indians are self-employed out of necessity.
Mr. Modi extolled the job-creating impact of the MUDRA loan scheme. In contrast, MUDRA’s CEO is on record saying that it cannot be verified that the agency has created large numbers of jobs. Another misguided Union minister recently gloated about “job creation” under MGNREGS — not realising that it is a social protection scheme that people turn to when they have no alternative employment and not exactly a reason for cheer.
Overall, the real state of India’s economy is deeply worrying. The latest RBI surveys of consumer confidence, industrial outlook, and professional forecasters point to pessimism on all fronts except inflation management. Mr. Modi spoke of how a train slows down as it changes tracks. Unfortunately, Economic Survey II’s numbers suggest that the economy has actually been derailed. The sooner the government understands this, the better.