Now that most of us have gotten over the initial shock of the April-June quarter GDP contraction, it may be time to reflect on a couple of things. First, it is possible that with the unlock, the worst is over. In fact, a number of indicators ranging from diesel consumption to the collection of road tolls look much better than in April-May. But how much comfort should we get out of this?
Second, according to the International Monetary Fund (IMF), India experienced the steepest decline this quarter among G20 economies when using a comparable non-annualized quarter-on-quarter growth metric. Should we dismiss this as the inevitable, but transitory consequence of a super-strict crackdown on activity that India imposed somewhat before other countries?
Alternatively, is it the proverbial ‘wake-up call’ that should push us to rethink our strategies for revival? Specifically, is there anything we can learn from the policy mix of our peers?
As usual
The unlocking has certainly paid off, in terms of revamped activity. Japanese investment bank Nomura’s Business Resumption Index shows that except for a plateau in July, business activity has picked up steadily since early May. This illustrates that the lockdown did not disrupt supply chains or the supply of labor so severely that the economy could not get back on its feet to break free. While we avoid this “worst case” scenario, there may still be a lot to worry about.
The increase in business activity could be in part a response to the pent-up demand that built up during the shutdown. As this subsides, the ‘bounce’ in the economy that came with the unlock may dissipate. Production is simply the other side of rent. If we trust the GDP figures for the first quarter, it is telling us that revenues in the economy fell 24%. If demand is revenue dependent, isn’t the contraction in demand that resulted from this precipitous drop in revenue likely to eclipse the momentum of proportionate pent-up demand? Wouldn’t this set off a vicious cycle of falling sales, lower income and lower employment and, sadly, a further drop in demand?
In terms of some of the long-term consequences, the current consensus among forecasters after the first quarter figures came out appears to be that in 2020-21, the economy will contract between 7.5-8% in real terms and 2.5 -3% in real terms. monetary terms (nominal). Thus, Covid-19 has set us considerably back on the path of becoming a significantly larger economy.
The challenge is not only to make up for this year’s loss of production, but also to get back to the pace of execution that brings us closer to our long-term goals. Even seemingly healthy growth next year of 8% will simply bring us back to what we had produced in 2019-20. We will have to accelerate much more to get closer to our goal. Clearly, a lot of heavy lifting remains.
This brings us to the related question of comparing to other economies and to a checklist of what they are doing to combat economic downturn. Take the case of Brazil, an emerging economy with a large population and whose Covid-19 count is similar to that of India. According to the IMF metric, Brazil contracted 9.7% in April-June, compared to 25.6% in India. However, while Brazil provided fiscal support of approximately 7.5% of GDP, India’s total fiscal support was approximately 2%. India has not made up for this “fiscal” deficit through increased provision of credit. The credit package for distressed sectors is roughly the same as the percentage of GDP for both economies.
Don’t wait for D-day
This marked difference in the weight of fiscal support does not apply only to Brazil, but applies to most other comparable economies. The somewhat obvious lesson for us here is the need for another round of fiscal support. This may not just be a boost for aggregate demand when driving large-scale projects. The fiscal model of other economies includes various things like cash transfers to the most vulnerable (poor urban households in India are strong candidates) and wage support to small businesses that prevents them from laying off workers.
Where will the money come from? While parsimony may be a virtue for households going through a crisis, it doesn’t work that way when it comes to national economies. In a crisis of this magnitude, the Government of India needs to borrow as much as it needs. If the markets are cold with your cash calls, it doesn’t really matter if you borrow from the Reserve Bank of India (RBI).
Finally, it’s hard to see any merit in waiting for the infection rate to drop to give a fiscal boost. On the one hand, the fear that households will save cash transfers instead of spending and boost demand is irrational. A 24% decrease in income means that family budgets have been drastically reduced. The first thing they are likely to do if a government transfer is credited to their bank accounts would be to spend on essential items that they are skimping on now.
If the fiscal boost is through infrastructure projects, let’s not forget that even the most “out of the box” projects take time to get off the ground. Policymakers need to account for a lag between spending and reward in terms of increased demand. The time to strengthen fiscal support is now.
(The author is HDFC Bank Chief Economist. Opinions expressed are personal).
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