India’s Economy Slows in the March Quarter Because of Demonetization

India's economy is finally showing signs of the impact of demonetization, the removal of high-value currency from circulation, reports Moody’s Analytics.

GDP growth slowed to 6.1% in the March quarter, down from 7% in the previous quarter. But the slowdown will likely be temporary, reckons economist Faraz Syed. He expects the economy to bounce back later in the year.

The slowdown was evident across most sectors, with construction the hardest hit (3.7% contraction). Investment struggled on the back of rising bad loans on balance sheets.

“The recent power given to the central bank to deal with bad debt is probably not going to make much difference,” writes Syed. “Without capital injection and privatization, we reckon investment growth will be slow.”

Demonetization blues

The contraction in construction is traced directly to the shock removal of 86% of the currency last November, when the government demonetized 500- and 1,000 rupee bills in an effort to root out corruption and bring black money into the economy. The majority of transactions in construction is cash-based.

“We had expected the impact of demonetization to be felt more in December, as evidenced by various high-frequency indicators declining,” says Syed. “In early 2017, it appears that economic activity was rebounding, but this is obviously not reflected in the national accounts.”

He expects conditions to normalize in the next quarter, and growth to move back towards the mid-7%. “Exports in India are finally rebounding thanks to improved global demand and rising commodity prices,” Syed notes.

“This trend will likely continue over the coming year, but the import bill will also rise and partially offset export gains.” 

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