Note ban hit GDP growth by up to 7.3 percentage points: World Bank

A study by World Bank used intensity of lights in evenings and nights to gauge economic activities

The government’s demonetisation during the third quarter of 2016-17 took away up to 7.3 percentage points of growth in the country’s Gross Domestic Product (GDP) for that period only, in districts dominated by informal activities, says a new World Bank study.

It used unconventional tools to assess the Narendra Modi government’s controversial move. 

Such districts “experienced drops in local GDP in the range of 4.7 to 7.3 percentage points”, says a policy research working paper.  

The study used intensity of lights in evenings and at nights to gauge economic activities. The study uses this tool to assess three disruptions in South Asia—earthquakes in Nepal, conflict zones in Afghanistan and demonetisation in India. 

It says evening and night-time lights serve as a good proxy for economic activity and consequently economic growth, as consumption and production during that time require some form of lighting.

Authored by Robert C M Beyer, Esha Chhabra, Virgilio Galdo and Martin Ram, the study uses satellite data on evening hour luminosity to measure monthly economic activity in South Asia at the district level. All the authors are with the chief economist office of South Asia at the bank.

The study says there was a dip in nightlight intensity during the time of demonetisation but it only lasted for about two months. This showed that demonetisation had a small and short-lived effect on economic activity in India at the aggregate level. 

However, the local impact might have been large in more informal-activity districts, where cash must have played a more important role in supporting transactions, says the study. 

Identification of such “informal areas” is a complex process. 

The study assumes such informality is higher in rural districts or those with low access to finance and where regular wage workers account for a lower share of total employment. 

The spatial approach is used to estimate quarterly GDP at the district level, based on local nightlight intensity and rural population. Local GDP levels are then used to compute local growth rates and to assess how these were affected. 

In India’s case there is evidence that poorer states have grown more slowly and these might also be characterised by higher levels of informality. If so, only comparing growth rates across formal and informal districts would overestimate the impact of demonetisation, the study says. 

To address this possible bias a ‘difference in differences’  approach is used. The first difference is between the district-level GDP growth rate in the third quarter of 2016-17 and that in the previous year. The second difference is between the growth shocks experienced by more and less informal districts.

The results suggest the more informal districts performed worse. The difference in local growth relative to a normal year was very small in urban districts, as well as in those with greater access to finance and with more of regular wage employment. 

These shocks were temporary; so, their impact on annual GDP of the affected localities was probably modest. But, in the short term, the local impacts were sizable. 

According to official statistics, the country's GDP at current prices grew 10.8 per cent in the  third quarter of 2016-17, year on year, to Rs 38.5 trillion. The growth rate was the same as in the second quarter and one percentage point more than 10.7 per cent in the fourth quarter. The rate was slightly higher at 11 per cent in the first quarter of the year.