Between a stimulus package and a hard place

As we hunker down and put up the shutters for another week in compliance with the requirements of lockdown 4.0, it is instructive to survey the achievements of the last three lockdowns. There is no doubt that the spread of Covid-19 has slowed substantially in terms of doubling rates, although the increase in the daily count over the past few days has been noticeable.  So, while we have achieved some success on the health front, are the steps taken to revive the economy adequate?

It may be worthwhile to remember that this contagion could not have come at a worse time. The Indian economy was already mauled as evidenced by the successive declines in the quarterly growth rates and rise in unemployment. All sectors of the economy — industry, agriculture, services —were undergoing serious problems and the raging debate was whether the downturn was structural or cyclical. Now, coronavirus has made that discussion redundant.

The projections of growth for FY 2020-21 are varied. The Asian Development Bank optimistically reckons it will be 4 per cent, the IMF projects it to be 1.9 per cent, while the World Bank estimates it to be in the range of 1.5-2.8 per cent. Nomura thinks gross domestic product (GDP) will shrink by 5.2 per cent, while Goldman Sachs has pegged it at minus 0.4 per cent. The government had in the Economic Survey thought that growth would bounce back to 6-6.5 per cent from the expected low of 5 per cent in 2019-20. A revised projection by the finance ministry has reportedly scaled it down to 2-3 per cent.

Given the gravity of the situation, the finance minister had announced a stimulus package on March 26 of Rs 1.7 trillion or 0.8 per cent of GDP,  which focussed on providing succour to the people at the bottom of the pyramid. Many commentators have since pointed out that some elements of the package were not new and that the fresh fiscal outlay was at best about Rs 1 trillion or 0.5 per cent of GDP. Be that as it may, the expectation was that this was only a quick response, and that a major stimulus package was in the offing. 

For more than six weeks thereafter, while the economy continued to sink, the government kept its own counsel and passed on the baton to the Reserve Bank of India (RBI). The RBI injected a considerable volume of liquidity through various measures such as the Targeted Long Term Repo Operations, a cut in the cash reserve ratio, refinancing of Small industrial Development Bank of India, etc. So, when on May 12, Prime Minister Narendra Modi announced that to rescue the economy, a stimulus package of Rs 20 trillion would be unveiled soon, there was palpable excitement and the markets cheered in anticipation. After all, even the Federation of Indian Chambers of Commerce and Industry and the Confederation of Indian Industry had only asked for stimulus packages of Rs 10 and Rs 15 trillion, respectively.

The five stimulus packages announced by the finance minister did not meet the expectations that had been generated. Since the various elements of the packages have been analysed ad infinitum we will not venture into those details. Most analysts are in agreement that the combined hit of all the tranches on the fiscal is less than Rs 2 trillion (1 per cent of GDP). The financing of this has substantially been taken care of by freezing dearness allowance payments of government employees and the recent massive hike in excise duties on petrol and diesel.

There is no doubt that the measures include some bold reforms pertaining to the Agricultural Produce Marketing Committee Act, freeing inter-state trade in agricultural products, the Essential Commodities Act, the renewed emphasis on privatisation. The packages also involve substantial monetary stimulus. The beneficial effects of these will be felt in the medium to long term. Their immediate impact on alleviating the present distress in the economy will be minimal.

Why is the government so parsimonious in dealing with a challenge to the economy which is acknowledged to be far more serious than any faced by the country ever? Even the lesser financial crisis of 2008-09 had the then government rolling out a fiscal stimulus package of about 3.5 per cent of GDP. The fact that it led to inflation and certain other undesirable unintended consequences had more to do with the reluctance of the government to withdraw the stimulus in time.

It is generally accepted that for a fiscal stimulus to be effective, it should pass the “ three T test”— that is, it should be timely, temporary and targeted. To these parameters one may add adequacy. Could the government have done more given its parlous financial condition? It has already expanded its market borrowing by Rs 4.2 trillion raising the explicit fiscal deficit to about 5.5 per cent of GDP. This will probably be used to fill the hole in the budgeted tax revenues and the expected shortfall in disinvestment receipts. As a part of the stimulus package, the states have been given the headroom to expand their fiscal deficits to 5 per cent of their GDP, taking the combined explicit fiscal deficit to at least 10.5 per cent of GDP.

The most trenchant criticism of the government has been its failure to address the plight of the migrant labour. But the fact is that even if it had the financial capacity to put money in their hands, it would be a logistical nightmare, as there is no record of their numbers or their whereabouts. Perhaps, if a couple of day’s time had been given to them to choose to go home before the lockdown became effective, their suffering could have been mitigated. Even thereafter, more trains and buses could have been run earlier to take them home.

The degrees of freedom available to the finance minister to go in for a larger fiscal stimulus are severely limited. The solution suggested by some to monetise the deficit can throw up serious problems of macroeconomic stability. Keeping the powder dry is not a bad idea in these uncertain times.
The writer is a former finance secretary to the Government of India 


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