The article discusses the fiscal response of the government to deal with the corona crisis. Fiscal response to the 2008 financial crisis was higher in terms of GDP percentage. Also, a comparison with emerging peer economic indicates that India might be running the tighter fiscal policy in the time of crisis. The article suggests higher spending by going beyond the traditional fiscal space.

A possible explanation for moderate fiscal response by the government

• The Indian government has till now come up with an insipid fiscal response to the ongoing economic crisis.
• Long battle: One view is that the government does not want to fire all its bullets in what threatens to be a long battle. It wants to time its interventions.
• Weak public finances: The other possible explanation for this fiscal timidity is that India has entered this crisis with weak public finances.

Comparison with finances at the 2008 financial crisis

• The combined official fiscal deficit of the Union plus state governments was at its lowest level in many decades.
• The economic boom of the preceding four years had led to higher tax collections pouring into the treasury.
• The massive increase in spending announced in the budget of February 2008 was with an eye on the national election scheduled a year later, rather than in anticipation of a coming storm.
• Then followed the second wave of fiscal expansion after the North Atlantic financial crisis hit Indian shores seven months later.
• Back then, India’s effective fiscal stimulus over two years was a substantial 4.3% of gross domestic product (GDP).
• In 2020, the crisis-driven spending plan announced by the government so far is less than 1% of GDP.
• There could yet be a big fiscal push in the coming days.

Tighter fiscal policy in crisis compared to other emerging economies

• Some of the budget estimates released a few days ago by the International Monetary Fund are telling.
• In 2018, the total fiscal deficit of the Indian government as a proportion of GDP was 2.4 percentage points higher than the average for Asian emerging markets.
• India is expected to end 2020 with a total fiscal deficit that will be 2.5 percentage points lower than Asia’s average.
• In other words, India ran a looser fiscal policy compared to the rest of Asia in normal times, but is likely to run a tighter fiscal policy than its regional peers in a crisis year.
• Something similar can be seen in estimates for public debt.
• Asian public debt as a proportion of GDP is expected to go up by nine percentage points in 2020.
• The comparable figure for India is 2.9 percentage points. (These estimates are being cited with full knowledge that forecasting models break down during extreme events.)

Funding extra expenditure through money creation

• Lack of traditional fiscal space should not hold the government back in a crisis situation.
• There are many options outside the consensus macro playbook.
• Money creation: A commonly cited option right now is funding extra expenditure through money creation rather than borrowing.
• The size of the Reserve Bank of India (RBI) balance sheet as a percentage of nominal GDP is close to its 35-year average.
• There is scope for printing more money right now.
• Lower inflationary pressure: And the inflationary consequences are likely to be muted because of the lower velocity of money amid a demand collapse.
• Public finances in the future: Getting public finances back on track is a battle that lies in the future.
• A rapid recovery in economic activity would be the best solution.
• Otherwise, history tells us that countries have brought down their public debt numbers through some combination of financial repression, austerity, higher taxes and inflation.
• Some element of capital controls could also be back in play.

Need for increasing discretionary government spending

• The collapse in tax revenues as the economy is shut down will automatically lead to a rise in India’s fiscal deficit.
• However, there is a need for an increase in discretionary government spending as well.
• Economists have shown that spending multipliers are higher than tax multipliers in India.
• In other words, the increase in economic output for every unit increase in the fiscal deficit is higher when the government spends rather than changes tax rates.
• State’s spending Vs. Union spending: Spending by states gives more bang for the buck than equivalent spending by the Union government.

“Below the line measures” to support the economy

• Also, there are options other than direct spending to support the economy.
• Countries such as Germany, the UK, Italy, France and South Korea have complemented traditional fiscal expansions with “below the line” measures such as loans and guarantees to companies.
• In an excellent recent study, analysts estimate that more than half of Indian corporate balances sheets will be unable to meet expenses with zero revenues.
• They are careful to point out that their analysis is based on extreme assumptions that there is no fall in their wage bills, no revenues, and no access to fresh credit.

One of the common suggestions we have been coming across is the spending by the government by printing money. In this article, the second important suggestion is below the line measures. Take note of these measures and options available with the government.

Way forward

• The poor need income support for their very survival. That should be at the top of any democratic government’s list of
• However, protecting Indian companies from a financial collapse also matters, because otherwise, the economy will see a reduction in its capital stock, which will be needed both for a rapid recovery as well as job creation once the worst is over.
• There are contagion risks in financial markets as well, going by what has happened to some mutual funds that were invested in bonds.

Conclusion

These are extraordinary times that require extraordinary measures. The danger from a delayed fiscal programme is that hysteresis may set in, as companies run out of money and supply chains are broken, damaging our economic prospects in the medium term.

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The article discusses the issue of migrant labourers and the problems eastern states could face due to the return of labourers and the lack of employment opportunities in these states. The return of migrant labourers may lead to the mechanisation in the states where they worked. A relief-cum-stimulus package at least 5% of the GDP is suggested by the author.

IMF’s projections for the economy

• The IMF’s projections for GDP growth for this year seem to be either in the negative or below 2 per cent for almost all major countries of the G-20 group.
• India could do a little better compared to the other BRICS nations, but its growth will most likely be below 2 per cent.
• This, of course, is under an optimistic scenario.
• Many experts reckon that India could also go into negative GDP growth this year if it does not reboot the economy properly and in time.

The problem of collapse in demand

• The Centre and the Reserve Bank of India are trying to remove all roadblocks so that factories and farms can resume operations.
• The focus is largely on the supply side — how to ease restrictions and how to increase liquidity in the system for resuming production.
• It may not take too long as the real problem is the collapse in demand.
• And that demand may not pick up easily as the virus is likely to stay with us for quite some time.
• We could have lockdowns again if there is a surge in infection.
• This will surely limit our travel and restrict our shopping for non-essentials.
• However, there is one demand that can easily revive — that of food.

Why food demand matters?

• The NSSO survey of consumption expenditures for 2011-12 revealed that about 45 per cent of the total expenditure of an Indian household is on food.
• For the poor, the NSSO reckoned, this figure was about 60 per cent.
• We do not have information about the consumption patterns in 2020, guess is that about 35-40 per cent of the expenditure of an Indian household is on food and for a poor household, this figure is around 50 per cent.
• Herein, lies the scope to reboot the economy.

Labour shortage and mechanisation

• The sudden announcement of the nationwide lockdown gave labours no time to go back to their families.
• They lost their jobs and incomes and having spent whatever little savings they had, these workers have been reduced to penury.
• The Centre and states, despite their best efforts, have not managed to address the problem of hunger of these workers.
• Even civil society has not managed to bridge the gap.
• The migrant labourers may well have lost their trust in the state, and once the lockdown is lifted, most of them are likely to rush back to their families in villages.
• And, it could be some time before they are back in the cities — that is, if they return at all.
• So, farms and factories, especially the MSMEs in the relatively developed states of western, southern and north-western India are likely to face labour shortages for many months, perhaps years.
• This could lead to more mechanisation of farms and factories in these states.
• In Punjab, for example, most of the wheat harvesting is already done by combined harvesters.
• Now even paddy harvesting could be done by mechanised harvesters.

The double challenge for states which are home to migrants

• However, eastern Uttar Pradesh, Bihar, Jharkhand, West Bengal, and Odisha, from where much of the migrant labour comes, will face a double challenge.
• Their agriculture, with tiny farm holdings, is already saddled with a large labour force — this comprises 45 to 55 per cent of the total labour force of these states.
• Non-farm income from wages and salaries, through migrant labour, was an important source of income for households in these states.
• This is now severely hit. In all probability, the per capita rural incomes of these states could shrink, at least in the short run.
• This could lead to poverty and increase hunger and malnutrition.
• How does one then reboot the economy and also address hunger and malnutrition?

The lockdown and the subsequent plight of the migrant labourers brought to the fore uneven development in the country. The points mentioned below suggest the ways to address this problem. A question based on this issue could be asked by the UPSC, for ex- “The issue of migrant labourers amid Covid-19 pandemic highlighted the uneven development in the country. In this context, state the reasons which led to the uneven development of various regions of the country. Suggest ways to address the problem”.

The requirement of a special investment package for eastern states

• A special investment package — like the Marshall Plan of USA in 1948 — for the eastern belt of India is required.
• Investment should be used to build better infrastructure, agri-markets and godowns, rural housing, primary health centres, schools and enhances people’s skills.
• The package will go a long way to revive the economy and augment the incomes of the migrant workers.
• Rising incomes will generate more demand for food as well as manufactured products, giving a fillip to the growth engines of agriculture as well as the MSME sector.
• Building better supply chains for food directly from farm-to-fork, led by the private sector, will enhance the export competitiveness of agriculture.
• It will also ensure a higher share of farmers in the consumers’ rupee.
• Long-term demand-driven growth: Such broad-based development in a relatively underdeveloped region of the country will lay the foundations of a long-term, demand-driven, growth of the industry in India.
• The all India relief package of Rs 1.7 lakh crore announced by the central government earlier, which is about 0.8 per cent of the country’s GDP, is too small to reboot the economy.

Conclusion

If India has to bounce back quickly, it needs a much bigger relief cum stimulus package — certainly not below 5 per cent of GDP. And, it should focus more on the eastern belt, where the issue is that of survival.

Back2Basics: Marshall Plan, 1948

• The Marshall Plan, also known as the European Recovery Program, was a U.S. program providing aid to Western Europe following the devastation of World War II.
• It was enacted in 1948 and provided more than $15 billion to help finance rebuilding efforts on the continent.
• The brainchild of U.S. Secretary of State George C. Marshall, for whom it was named, it was crafted as a four-year plan to reconstruct cities, industries and infrastructure heavily damaged during the war and to remove trade barriers between European neighbours – as well as foster commerce between those countries and the United States.

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