The Reserve Bank of India’s report in 2017 confirming that Prime Minister Narendra Modi’s demonetisation decision resulted in almost all of the withdrawn notes being returned prompted the government to look for other indicators as proof that the effort had not been a waste. One of those was supposed to be the huge numbers of new taxpayers added to the system because of a renewed jolt of enforced honesty, which would in turn lead to bigger tax revenues for the government. The Economic Survey tabled in Parliament on Monday does say that demonetisation and the Goods and Services Tax that was rolled out after it did add more taxpayers, but this addition will not move the revenue needle anytime soon.
The Economic Survey is an annual report written by the Chief Economic Adviser that lays out the state of the country’s economy days before the finance minister introduces the Budget. In the survey tabled in 2017, Chief Economic Adviser Arvind Subramanian said there would be three ways to measure the success of demonetisation: an increase in digital payments, a lower cash-GDP ratio and “perhaps the most important marker of success”, an increase in taxpayers and tax revenues.
In this year’s report, Subramanian dedicates a box early on to the increase in taxpayers after demonetisation. The economists says “at first blush, there does seem to have been a substantial increase in the number of new taxpayers”.
But it is not as simple. As Subramanian admits, since India has been adding new people to the tax net for a few years even before demonetisation. Instead, the question is whether the months after demonetisation saw a higher percentage of new taxpayers added to the net than would have otherwise been expected. For this, Subramanian’s team runs a regression analysis that attempts to estimate what it ought to have been if there had been no demonetisation. The graph on the right above shows this analysis.
“Taking seasonality into account it is found that there is a 0.8 percent monthly trend increase in new tax filers (annual growth of ~10 percent). The level of tax filers by November 2017 was 31 percent greater than what this trend would suggest, a statistically significant difference. This translates roughly into about 1.8 million additional tax payers due to demonetization-cum-GST, representing 3 percent of existing taxpayers.”
In other words, the combination of demonetisation and GST has added about 1.8 million tax payers to the net, in a country of 1.2 billion people. Moreover, Subramanian admits that this relatively small number is unlikely to bring in much additional revenue.
“Further analysis suggests that new filers reported an average income, in many cases, close to the income tax threshold of Rs. 2.5 lakhs, limiting the early revenue impact. As income growth over time pushes many of the new tax filers over the threshold, the revenue dividends should increase robustly.”
Essentially, this means that combination of demonetisation and GST added 1.8 million taxpayers to the net – 0.15% of the population – and most of those are at the bottom range of the tax threshold, meaning even if they are now paying taxes it will not have much of an impact on revenues. Subramanian holds out hope that over time income growth should change that, but as far as finding indications that demonetisation was a success, it seems like the chief economic adviser is still looking.
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