Globally, economies are facing unprecedented challenges arising from restrictions imposed to contain the spread of the novel coronavirus. The International Monetary Fund (IMF) predicts the worst economic fallout since the Great Depression of 1929.
India’s economy was already in a downturn due to weak domestic demand, low investment and falling exports before the pandemic began. Unemployment had reached a 45-year high and consumption had declined starkly in rural areas. India’s own nationwide complete lockdown and social distancing rules in response to the pandemic, now underway for a month, have disrupted production and consumption networks which were unprepared to absorb an economic shock of this magnitude. Millions of jobs have been lost; supply and demand chains have collapsed. India now faces a serious dual challenge of saving not just lives but also livelihoods. Minimising the pandemic’s impact on India’s already struggling economy will depend on the government taking bold policy measures.
The immediate cost of the lockdown has been seen most visibly on informal workers. Around 90% (411 million out of 461 million workers) of India’s workers are engaged in the informal economy, according to government figures. These workers earn low wages, have no social security and face job uncertainty, which makes them extremely vulnerable to the stifling of economic activity brought on by the abrupt lockdown. The informal economy was still reeling from the dual shocks of the demonetisation exercise in 2016 and the poorly rolled out Goods and Services Tax in 2017. Job losses to the tune of 6-10 million have been attributed to both these shocks by researchers. Further, around 68% of all Indian workers are reported to earn less than the recommended national minimum daily wage of Rs 375 – the gap is on average 41%.
Early signs of rising unemployment have already begun to show. According to the Centre for Monitoring Indian Economy’s latest survey data, the overall rate of unemployment has increased from 8.4% to 23.8% in the week ending March 29 – up to 30% in urban and 21% in rural areas
The magnitude of the crisis becomes clearer when we consider that almost a quarter of the country’s workforce – about 111 million out of 461 million – is engaged in elementary occupations. These include street vendors, garbage collectors, domestic workers, transport labourers, manufacturing and construction labourers, agriculture and fishery workers. They are mostly daily wagers with little to no savings.
Protecting informal workers, MSMEs from further precariousness
India has about 40-50 million seasonal migrant workers who work on construction sites, in factory production and service activities. The exodus of migrant workers from metros after the lockdown was announced, abruptly closing businesses and factories, is a fallout of the crisis. Many remain stranded on roads and in their workplaces. The priority should be to provide stranded migrant workers with daily food rations. State governments have taken some measures to provide for their needs, but more needs to be done.
On March 26, Union finance minister Nirmala Sitharaman announced a relief package worth Rs 1.7 lakh crore, with a focus on providing food security to the poor, boosting the healthcare sector and providing minimum cash to low income households. The government also announced 5 kg free wheat or rice per person for three months, 1 kg free pulses for each household, Rs 2,000 to about 87 million farmers, and an increase of Rs 20 on MGNREGA wages.
These measures are in the right direction but they are insufficient for the scale of the current crisis. Take the increase in MGNREGA wages, for instance. The new wage of Rs 202 is still below the average wages of casual workers (Rs 255 as reported in 2017-18), and is also much lower than the nationally recommended minimum wage of Rs 375. The wages should be increased at least up to the minimum wage to sustain workers and their families.
While the lockdown remains in place, workers already enrolled under MGNREGA should be paid an advance of three months’ pay and their arrears be released at the earliest, to provide them a cushion of support. When the lockdown is lifted, more MGNREGA job demands should be fulfilled. This will help to ease unemployment of not just rural workers, but also of those migrant workers who will not be able to find work immediately.
Given the loss of employment and income, informal workers are in acute need of cash support. The government has announced a paltry sum of Rs 500 a month for three months to women who have Jan Dhan Yojna accounts. They must be provided with Rs 3,000-6,000, as some experts have opined. Further, an adequate mechanism of direct cash transfers to informal workers who do not have Jan Dhan accounts must be devised urgently.
Micro, small and medium enterprises (MSMEs) provide large scale employment mainly in India’s manufacturing and services sectors. Based on some estimates, MSMEs contribute about 30% of India’s gross domestic product (GDP) and employ some 50% of industrial workers. MSMEs have been the worst hit by the lockdown. Most of them operate on cash. When the lockdown is lifted, it is probable that many MSMEs will be forced to close for lack of working capital. To avoid this, loans on easy terms or even non-interest loans should be afforded to MSMEs.
Fiscal policy – a bazooka to launch now
The Reserve Bank of India (RBI) has delivered a satisfactory monetary intervention to the disruption caused by the lockdown, though monetisation of the fiscal deficit (the difference between government earning and spending) is still untouched. It has significantly enhanced the liquidity in the banking system, undertaken steps to help with domestic dollar requirements and delivered what it could to maintain the stability of the financial system.
However, it needs to be made clear that the RBI’s measures are not an economic panacea to balance the impact of the slowdown due to the pandemic. When factories are shut, investors and customers are in quarantine, consumption is down and the private sector is unwilling to undertake fresh investment risks, no amount of incremental liquidity in the banking system can spur new credit or induce consumption.
Therefore, the authorities should instead look to ample instruments at its disposal through changes in fiscal policy to improve sentiments in the economy.
The stimulus worth Rs 1.7 lakh crore is a mere 0.8% of India’s GDP. The measures such as free food rations and direct cash transfers taken by different state governments so far amount to approximately 0.2% of GDP. In sum, the central and state governments have provided a fiscal package of just 1% of GDP.
A comparative analysis of the fiscal package announced by G20 countries makes India’s moves look tiny when compared to its peers. Brazil being a $1.8 trillion economy has announced a fiscal package of 6.5% of GDP. Likewise, Saudi Arabia which is a $0.8 trillion economy has announced a package of 3.2% of GDP. When a crisis is big, the government needs to take big steps.
So, how can the government finance greater spending? The principles of modern monetary economics tell us that central banks can print unlimited money while maintaining a chunk of minimum reserves. In the G20 club, many central banks have started buying government bonds or other financial assets in order to inject money directly into the economy.
Such measures taken in India will no doubt raise the fiscal deficit, which is widely frowned upon because we are told it leads to inflation, and ‘crowding out’ of private investment. In India, the Fiscal Responsibility and Budget Management Act, 2003 sets a non-breakable benchmark of 3% of GDP. While the IMF proposes a thumb rule that total debt to GDP ratio should not be above 60% of GDP, we are now seeing many economies performing well despite being leveraged above 60%. For example (Brazil: 82.5%, Hungary: 71%, South Africa: 63%, Singapore: 114% etc). This leverage comes with a cost if not used judiciously. However, an increase in domestic growth can be a premium to this. Therefore it is not true that a high fiscal deficit is always bad for the economy.
The RBI this March estimated that the Consumer Price Index inflation will be 3.2% by the fourth quarter of 2020-21, which is lower than the RBI’s target of 4% (+/-2%). Therefore, some economists believe that new money will push inflation up, as ‘more money chases the same amount of goods’. This argument does not make sense when demand has collapsed due to suspension of most economic activity for a prolonged period.
When there is high unemployment and idle industrial capacity, an increase in fiscal deficit need not necessarily lead to inflation. In fact, in the present scenario, an increase in government spending will help resuscitate the economy.
The reasoning is simple. If the extra money printed reaches those who did not have enough money to buy goods and services, their consumption will increase. Factories which had cut back on production will raise their output. In short, enlarged public spending financed through a higher fiscal deficit will help raise production and increase employment without any impact on prices.
Other economists argue against a higher fiscal deficit being financed through market borrowings, for this will lead to ‘crowding out’, or discouraging private investment. They say a rise in the fiscal deficit raises income, which raises the demand for money. Interest rates are determined by the demand for and supply of money. Therefore, any increase in demand for money will push the interest rate up, which in turn squeezes private investment as it raises the cost of borrowing. Thus, even when public spending increases, there is no net increase in employment and output in the economy. This argument does not hold water as money supply in a modern economy adjusts to demand, and hence cannot result in a rise in interest rates.
When an economy is facing high unemployment and unutilised capacity, banks too are facing insufficient demand for credit. In such an environment, any increase in the demand for money would result in an increase in supply of money, without any significant change in the interest rate. Therefore, higher fiscal deficit actually ‘crowds in’ or encourages private investment.
When the government spends, it increases demand not only directly but also indirectly. Direct government purchases from some industries set in motion an increase in demand in many other industries. The benefit of that demand expansion also goes to the private sector and encourages it to invest. In a nutshell, the debt financing public expenditure will ‘crowd in’ rather than ‘crowd out’ private investment.
We propose the following actions the government can take:
(i) protect employment and MSME businesses
(ii) provide direct financial support for affected microenterprises, liberal professions and independent workers
(iii) reduce/postpone taxes for affected industries and provide concessional loans from public and private financial institutions
(iv) raise minimum pension and cash assistance to families in need
(v) streamline and boost health infrastructure
(vi) further increase spending on health supplies at least up to 3% of GDP, and
(vii) develop preventive measures against the spread of infection and strengthen treatment capacity
Preparedness in terms of policy responses is imperative to contain both the spread of the virus and economic slowdown. An expansionary fiscal policy – a big push for a big problem – is a must to save lives and livelihoods. Hence, to give a ‘big push’ to the economic engine, the government should aim at a fiscal stimulus of at least 5-6% of GDP.
Kashif Mansoor is a research scholar at Centre for Development Studies, Thiruvananthapuram, Kerala and M.T Azeem is an independent researcher based in Lucknow, Uttar Pradesh.