Demonetisation: Growth rate to trend down; tax cuts won't happen, say economists

Moneycontrol BureauTwo out of three economists Moneycontrol spoke to believe the demonetisation drive by the government won’t immediately force The Reserve Bank to cut its key policy rate in its December policy meeting. But a February rate cut is not ruled out, they say.  "We are still looking at a 25 basis point (bps) cut but not in the December policy. There will be surplus liquidity with banks so they would reserve it [a rate cut] for a better time," says Madan Sabnavis, Chief Economist, CARE Ratings. Similarly, Sunil Kumar Sinha, Principal Economist at India Ratings and Research said, he doesn't expect a rate cut this December. Going forward, the RBI will take stock of the impact from the currency ban, and watch closely for monetary transmission to happen before its Monetary Policy Committee undertakes policy measures, he said. The annual consumer price inflation eased to 4.20 percent in October, its lowest level in 14 months, helped by smaller rises in food prices. Any RBI measure on rates factors in CPI-dependent inflation data. Kotak Institutional Equities' Economist Suvodeep Rakshit expects the rate cuts to be in the region of 50-75 bps for this fiscal year, even he has raised his earlier March 2018 rate cut forecast to 100-125 bps by March 2018 from 50-75 bps. 

“The second half of FY17 will likely see inflation decelerating further helped by favourable base effect and mean reversion of the seasonal pressure on food prices, even as core inflation inches up marginally.”  It expects the average inflation to remain benign at around 4.1 percent, while core inflation, on the other hand, is likely to inch up to 5 percent in the second half of this fiscal from 4.6 percent in the first half. 

GDP Growth The impact of the currency replacement scheme, which many now are seeing as a long-drawn pain that will last another quarter, has been felt most acutely in manufacturing and consumer discretionary sectors -- two key triggers for economic growth. Demonetisation will most likely put the breaks on an economy that grew at a pace of 7.1 percent in the first quarter of FY17.   Sabnavis sees a slowdown in India's overall GDP growth rate this year by about 0.3-0.5 percent in the current fiscal. Services sector, according to him, will be the most affected on account of losses in trade. While Rakshit revised down the growth rate by 60-100 bps from its earlier optimistic 7.7 percent for this fiscal, Sinha of India Ratings and Research is still in the process of working out a 'revised GDP number'. Some brokerages have projected far worse declines in their GDP growth estimates, with Ambit Capital clocking in the steepest at 3.6 percent. Tax Cuts? Various estimates put the parallel or black economy as constituting almost 25-30 percent of the GDP, or about Rs 30-50 lakh crore. With the latest clampdown expected to bring a large chunk of this corpus under the tax net, it is believed that government will announce tax cuts in the Budget to reward honest tax payers. But it remains at the level of speculation.  Sabnavis says ideally the government should cut taxes but it would depend on the success of this particular scheme.  Sinha of India Ratings and Research believes demonetisation will facilitate restructuring of tax rates, but there won't be any rate cuts immediately.  Kotak's Rakshit also says tax slabs may be shifted but tax rates will likely be unchanged. Pain to Stay The black money crackdown will see some short-term pain. While Sabnavis is confident that the discomfort will wear thin by April, 2017, normalisation will take anywhere from six months to one year, believes Sinha. Rakshit also believes it will take another 2-3 quarters for the dust to settle on the demonetisation drive.