‘No Impact On GDP In The Long Run’

In a chat with BW Businessworld’s Suman K. Jha, Global Financial Integrity’s chief economist Dev Kar discusses demonetisation and the outflow of black money from India.

Excerpts

How do you view the demonetisation move carried out by the Narendra Modi government?
The demonetisation initiative can be expected to throw a monkey wrench into the normal use of black money involving large settlements in cash making them almost impossible to trace. However, given the experience of some other countries with demonetisation such as Bangladesh, Congo, and a few Latin American countries, the generation, utilisation and transmission (both internal external and cross-border) of black money will only be temporarily curtailed as a result. Operators will devise myriad ways to circumvent the crunch on black money volumes (for instance, payment in foreign currency in an external account to be round-tripped back on demand), purchasing of dollars in domestic black markets and settlement in dollars to be exchanged upon introduction of new currency, payment in kind involving hold and other asset holdings, etc. Demonetisation is akin to treatment of the symptoms of corruption, not the complex factors that drive them (as captured by the World Bank’s six dimensions of governance). Progress on those fronts on a sustained basis involves all branches of government (wide political commitment at the highest levels of government, judiciary, regulatory institutions, enforcement of laws in a fair, transparent, and timely manner, etc).

What about its long-term effects?
It will have a salutary effect on black money use and generation in the short term without any long-term decline in trend.

You reckon that parallel economy in India would be 50 per cent of the national GDP, if one were to include the informal sector. Do you think the government needs to hit out at, and check, the generation of black economy and parallel economy?
This will take time as improvements in governance require sustained efforts over the long run until people are convinced “this time, the government means business”. The six dimensions of governance are: (i) voice and accountability (ii) control of corruption (iii) government effectiveness (iv) rule of law (v) strength of institutions (vi) absence of violence and political stability. Sustained efforts to improve on all these aspects of governance will translate into higher scores in international rankings which are based on survey results submitted by Indian citizens to the World Bank.

You have studied this— what is the extent of outflow of black money from India, you think? And, what does the government of the day need to do to check this, and bring it back?
Present estimates of outflows from India are around $50 billion per annum or about 2.5 per cent of GDP per year. That said, the figures are being revised due to some data issues related to country reported data to the IMF. We expect outflows from India to show a decline as a result and India’s ranking as the fourth largest exporter of black money is also expected to slip. Revised estimates are expected in late December.

Many economists feel that as a result of the demonetisation move, the GDP could take a hit in the short run, but will gain in the long run. Do you buy this theory? Can you put numbers to this?
Demonetisation is expected to place a temporary brake on black money use and generation. As such, I do not expect demonetisation to have any impact on GDP in the long run. Typically, economists estimate that corruption shaves off around 1 per cent from India’s GDP growth. If genuine improvements in governance were to be achieved, that would at most contribute to a 1 per cent jump in India’s growth trajectory, which is significant when compounded over time.