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Demonetisation positive in medium term: ADB

Prime Minister Narendra Modi’s decision to invalidate high-value banknotes is likely to have a positive impact over the medium term, the Asian Development Bank (ADB) said today.

business Updated: Apr 07, 2017 07:30 IST
PTI
A worker walks past inside the Asian Development Bank (ADB) headquarters in Manila.
A worker walks past inside the Asian Development Bank (ADB) headquarters in Manila.(Reuters)

Prime Minister Narendra Modi’s decision to invalidate high-value banknotes is likely to have a positive impact over the medium term, the Asian Development Bank (ADB) said today.

“Demonetisation is likely to have a positive impact over the medium term. Along with the forthcoming implementation of the goods and services tax, demonetisation will widen the tax net and improve tax compliance,” said Asian Development Outlook, ADB’s flagship economic publication.

“With more people channelising their savings into the banking system, banks will have more money to lend at lower rates. Lower aggregate deposit costs should improve bank profitability, further increasing their lending capacity,” it added.

On November 8 last year, the government withdrew the legal tender status of all Rs 500 and Rs 1,000 banknotes.

Noting that the cancellation of currency is intended to check corruption, counterfeiting and funding of terrorism, the report said, “This decision augmented measures introduced earlier to fight corruption, including tax amnesties to encourage the disclosure of black money, agreements with other countries to share banking information and the renegotiation of treaties to avoid double taxation.”

It further observed that the decision was to foster digitisation, improving tax compliance and channelising additional savings through the formal banking system.

Pointing out that India is a cash-intensive society, with an estimated 78% of consumer payments concluded in cash, the paper stated, “The initial currency crunch, caused by the slow replacement of demonetised notes, therefore hit economic activity, causing a temporary drop in consumption and employment.”

However, the ADB report added that the steady progress in remonetisation is expected to rapidly rectify the situation.

Emphasising that the temporary drop in demand led to a decline in inflation, the report said the return of demonetised notes caused bank deposits to surge and lending rates to drop.

“Because small enterprises generate a large share of India’s exports and are highly dependent on cash, demonetisation impeded exports of gems, jewellery and garments for a few months before the situation normalised,” it noted.

According to the report, gold imports spiked in November, with buyers reportedly purchasing gold with discontinued notes even at large premiums.