Nobel laureate Abhijit Vinayak Banerjee recently said in a webinar that he has a simple policy prescription for India as its economy shrivels under the impact of the coronavirus crisis: Print money liberally and transfer cash directly to the sections of society that need it most. The economist suggested that countries such as India should not worry too much about macroeconomic stability and fiscal slippages and should do ‘whatever it takes’ to help those who are vulnerable to the economic shock that many fear might be greater and more pervasive than the Great Depression of 1929.
What does that mean? Let’s understand.
Printing money refers to Governments printing money in order to increase the amount of cash or liquidity in the economy. The central bank buys bonds or other assets from the private sectors in exchange for reserves and account balances to print more money. Traditionally, printing money drives the demand for goods and services higher, in turn causing inflation. Hence the amount of money in circulation must be in line with the economic output being produced by the country. India is currently a ‘demand constrained’ economy, which means the factories in the country are producing below capacity, as the consumers do not have purchasing power in the wake of job losses and shutting down of business during the pandemic. But if more money is printed, it will stimulate demand, increase output, reduce inflation and also increase the purchasing power of consumers. Until 1997, the RBI automatically monetised the government’s deficit. This means that the government dealt with the RBI directly — bypassing the financial system — and asked it to print new currency in return for new bonds that the government gives to the RBI. In 1994, Manmohan Singh (former RBI Governor and then Finance Minister) and C Rangarajan, then RBI Governor, decided to end this facility by 1997 due to inflation.
People like Banerjee have said India shouldn’t be worrying about inflation during the COVID crisis and rather try to meet the deficits via printing money. Such idea has met criticism from people like eminent economist Pinaki Chakraborty who says The RBI should not print money to finance the fiscal deficit as it will lead to fiscal profligacy. Fiscal Profligacy refers to measures which lead to an unsustainable fiscal position of a nation.
It is also to be noted that all economists have claimed that there has to be more government atleast to take a step towards tackling the fiscal deficit. Given that domestic consumers are holding back consumption and domestic businesses are holding back investments (the second-biggest engine of GDP growth), it was incumbent on the third-biggest engine of India’s GDP growth — that is, the
government — to spend more and pull the economy out of the current rut. But as the green bars in CHART 6 show, the Indian government has been stingy about spending more. The green bars show the total expenditure (in terms of a per cent of GDP). After being forced to spend more in 2020-21, the government has actually pulled back (as a proportion of GDP) in 2021-22. It is for this reason that its deficit will fall in FY22 as against FY21.
But this move is proving to be counterproductive for India’s economic revival. The NCAER review makes the following remark: “Unfortunately, an inexplicably contractionary fiscal policy in 2021–22, sharply reducing the deficit, will delay recovery.”
Also. trends suggest that The biggest engine of GDP in the Indian economy is the expenditure that Indians undertake in their private capacity. This demand for goods and services — be it in the form of a new car or a haircut or a new laptop or a family vacation — is what accounts for more than 55% of all GDP in a year. Even before Covid, the Indian economy had reached a stage where the common man was holding back this expenditure. The first Covid wave made that trend worse with people either losing jobs or salaries being reduced. The second Covid wave has compounded the problem further because now everyone is bothered about the high health expenses. In the absence of consumer spending, the country’s businessmen — both big and small — are holding back new investments and refusing to seek new loans. Hence, it also makes more sense to have more government expenditure and possibly think about solutions such as printing more money.
In 2019-20, India’s GDP was Rs 146 trillion. In other words, India had produced goods and services worth Rs 146 trillion that year. Then, in the last financial year — that is, in 2020-21 — it fell to Rs 135 trillion. That’s the fall of minus 7.3% we were talking about earlier. In the current financial year — that is, in 2021-22 — the GDP is expected to grow back to Rs 146 trillion after registering a growth of 8.3%. This would mean that, in terms of overall economic production, India would have lost two full years of growth. For instance, if there was no Covid disruption and India grew by even 6% in both these years, the total GDP would have reached the level of Rs 164 trillion — that is, Rs 18 trillion more than where India is likely to end up now. There is a chance that India may grow by 10.1% this year, instead of 8.3%, and in that case, India’s GDP would go up to Rs 149 trillion but even so, India would be far off from where it could have been without Covid.
India's fiscal problem is real and it requires quick attention. The RBI and the Central Government must act fast.
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