Demonetisation, Bad GST Implementation Hurt India’s Household Savings Rate

The country's falling savings rate confirms the widespread fear that a majority of households are in crisis post-demonetisation and could hurt the economy's growth prospects.

New Delhi: India’s falling household savings rate – a trend accentuated first by demonetisation in November 2016 and then again by shoddy implementation of Goods and Services Tax (GST) last July – could hurt the growth prospects of the economy and also trigger macroeconomic instability if not reversed soon, according to economists.

The country’s falling savings rate confirms the widespread fear that a majority of households are in crisis post-demonetisation, said Arun Kumar,  Malcolm S. Adiseshiah Chair Professor, Institute of Social Sciences.

“People have also lost faith in banks and currency after the note ban, which is reflected in low growth in bank deposits,” Kumar told The Wire.

‘Household savings’ is defined as the difference between a household’s disposable income (wages, income of the self-employed and net property income) and its consumption (expenditures on goods and services).

These savings, intermediated by banks and non-banking financial entities, are a key source of investment funding and hence critical for maintaining GDP growth. Besides, household savings are a better source of funds for repaying public debt internally.

Household saving rates fell from 23.6% of GDP in 2011-12 to 16.3% in 2016-17, according to the Reserve Bank of India.

Since the household sector is the largest contributor to savings, the overall savings rate declined to about 30% in 2016-17, after staying well above 32% for many years. In 2011-12, the rate was a robust 34.6%.

This decline was, in part, due to the shocks from note-ban and GST implementation, according to a recent report by India Ratings and Research.

“Although the twin policy shocks of demonetisation and Goods and Services Tax had economy-wide ramification, it was more pronounced in case of the household sector. The savings rate of the household sector plummeted 153 basis points year over year (y-o-y) in fiscal year (FY) 2017, while for private corporations fell 12 basis points y-o-y. However, savings rate for the public sector increased by 37 basis points,” the report notes.

Between fiscal 2012 and 2017, the household sector accounted 60.93% of the economy’s total savings, followed by private corporations at 35% and the public sector at 4.07%, the India Ratings report says.

The household savings grew at an anemic rate of 3.7% during the period, the lowest among the three broad categories.During the same period, savings of private corporations grew at 17.4% and while that of public sector at 12.9%.

During the period, the share of public sector and private corporations in investment as measured by gross capital formation rose, but the same for household sector declined, the report noted.

Household sector was the largest contributor to gross capital formation till 2013-14. Since then private corporations have emerged as the largest contributor.

Following demonetisation, household investment shifted from real estate to mutual

Is GDP really growing at a robust pace?

Kumar also trashed the government’s claim that the economy is growing at a robust pace of over 7%. He expressed fear that the unorganised sector, which contributes as much as 45% of the GDP, has seen a sharp output decline in the wake of demonetisation unlike the organised sector, which continues to grow at a decent pace.

“Even if we assume a modest production decline of 10% in the unorganised sector, the GDP growth comes below 1% from 7%,” Kumar said.

Production data from the unorganised sector post demonetisation is currently not available.

In absence of data, the government is assuming that the unorganised sector is growing at the same as the organised sector, which may not be true, he said.

Surveys on the unorganised sector are undertaken by the government after every three or five years. “At what pace the unorganised sector really grew post-note ban will be known only when actual data are available,” Kumar said.

The investment rate has also fallen from 38% in 2007-08 to 31% in 2017-18. The economic growth is being driven by the sole engine of consumption.

Analysis of GDP suggests that increases in final consumption expenditure accounted for 65% of the increase in GDP between 2011-12 and 2017-18, whereas increases in gross capital formation contributed 19.8%.

In 2016-17 and 2017-18, private final consumption expenditure accounted for about 56% of GDP and government final consumption expenditure for another 10-11%, whereas gross fixed capital formation amounted to 31%.

In contrast, in China investment contributed close to half of the GDP for years, pointed out economists. China is now trying to curtail investment and promote consumption in a rebalancing act.