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April 10, 2017

Three years later…

3 years after, 3 key takeaways


In May 2017, the Narendra Modi-led National Democratic Alliance (NDA) will complete three years of its five-yearterm. Three key highlights of the third year of the NDA are: (1) passage of the Goods and Services Tax (GST) byboth the houses of Parliament, (2) demonetisation of high denomination currency and (3) consolidation of politicalpower by the ruling party.


GST, the most significant indirect tax reform in decades, will be a game changer. It may not be the optimal GSTstructure, but let the best not be the enemy of the good. Even with its imperfections, it is expected to usher insignificant efficiencies and benefits in the logistics chain across sectors and lift India’s growth trajectory over themedium run.


Although somewhat disruptive in the short run, demonetisation is being leveraged to move India towards a ‘lesscash’economy. The recent data from the Central Statistics Office shows a small and transitory hit to India growthfrom demonetisation. We, too, expect India’s GDP growth to lift to 7.4% in fiscal 2017-18 from 7.1% in thepreceding fiscal. GST together with the move towards a ‘less cash’ economy will also give speed to theformalisation of the economy.


One of the most important lessons from the demonetisation drive of last year is that it is possible for a governmentto take hard decisions without eroding political capital. Post demonetisation elections were held in five states outof which the NDA has managed to form government in four states with stellar wins in Uttar Pradesh andUttarakhand.


Notably, the Modi government has largely avoided populism and has stayed away from deploying monetary andfiscal policies to push growth up. Election victory in the face of such a policy stance (plus demonetisation impact)means that Modi government can avoid populist policies and even take hard decisions in the run up to the 2019general elections. Hopefully, the farm loan waiver in Uttar Pradesh is just one off appeasement move.


Over the last three years, the non-performing assets of the banking sector have spiked and investment as apercentage of GDP has continued its downward journey. Reversing this trend is critical for a sustaining a highergrowth trajectory. Most of the reforms and repair initiated by Modi government continue to be work in progress.The remaining two years should focus on effective implementation of the reforms and measures alreadyannounced.


The report of the Fiscal Reforms and Budget Management (FRBM) committee was made public in April. The reportrecommends reduction of fiscal deficit of the central government to 2.5% of GDP by 2022 general governmentdebt to 60% of GDP. The ball is in government’s court to accept and legislate them. Going the by government’scommitment to fiscal rectitude, these are more likely to be accepted than not.