Everything is not okayA series of impractical and confusing recovery policies have heightened business, investment and employment uncertainties.
Owing to a prolonged combination of health, supply and demand shocks, and a botched response to containing the spread of the novel coronavirus, the pandemic is severely affecting the economy. These shocks, along with preexisting economic and governance weaknesses, have increased the likelihood of subdued economic activities well into the medium-term; that is, the ongoing economic pain may not be a temporary phenomenon. The poorest households, informal sector workers, and those working in contact-intensive services have been disproportionately affected. Consequently, both poverty and inequality are expected to increase. Furthermore, many micro, small and medium enterprises are expected to face bankruptcy, as consumer demand remains muted and supplies continue to be disrupted.
Against this backdrop, a sustained and inclusive economic recovery hinges on pragmatic stabilisation policies over the short to medium term, followed by coherent structural reforms across sectors over the medium to long term. The economic strategy should focus on propping up aggregate demand over the medium term through public spending on quality, shovel-ready projects; or through the repair and maintenance of public assets. In order to bridge the short-term financing gap amidst high fiscal stress, the government may need to rely more on policy-based external borrowing, which comes as budget support conditional on fulfilling certain committed reforms.
Not so rosy
Economic output growth in the fiscal year 2020-21 will most likely be only slightly better than in 2019-20, thanks to a base effect, which refers to a tendency of achieving an arithmetically high rate of growth when starting from a very low base. Gross domestic product (GDP) growth might actually contract in 2019-20 as labour and capital mobility were curtailed in the last quarter of 2019-20 as well. Third quarter estimates released by the Central Bureau of Statistics in September show that GDP growth plunged to 0.8 percent even though lockdowns started in the middle of the quarter. This is the slowest pace of quarterly GDP growth since the second quarter of 2015-16, when the Indian economic blockade contracted the economy. The fourth quarter GDP data for 2019-20 will probably show a contraction. Cumulative full year GDP will also likely contract due to the severe disruptions in industry and services owing to lockdowns, a shortage of inputs in the agricultural sector and a lack of effective fiscal response to prop up consumer demand. The Bureau’s 2.3 percent growth projection for 2019-20 has no relevance now. The International Monetary Fund projects the economy to grow by 0.02 percent in 2019-20 and 2.5 percent in 2020-21.
The other statistics are also not that rosy. Despite subdued demand for consumer goods, continued supplies disruptions, as well as higher logistics costs, will likely keep inflation above 6 percent. The surge in banking sector liquidity is temporary, as credit growth has slowed down significantly due to a drop in new loan applications. This is benefitting the government as it is able to borrow at a record level with lower interest rate. The current account deficit is narrowing down as imports decelerate more than exports and remittances’ deceleration is below expectation. These indicators will quickly deteriorate as businesses and household activities pick-up pace. Overall, the outlook is not at all rosy.
What went wrong since the first confirmed Covid-19 positive case on January 23 and the lockdown that started on March 24 but was relaxed in September? The uncontrolled outbreak and the lack of healthcare infrastructure are now considered a basket case of bad pandemic mismanagement. The lockdowns were an opportunity to prepare necessary healthcare infrastructure—which includes the availability of personal protective equipment, hospital beds, Covid-19 care centres for those unable to stay in home isolation, an active network of contract tracers, and widespread testing, among others—to respond to the eventual rise in infections. Not only was healthcare response mismanaged, the economic response too was patchy and demoralising. A series of impractical and confusing recovery policies heightened business, investment and employment uncertainties. These need to be rectified for sustained and inclusive recovery.
The priority should be the healthcare sector. Without controlling the spread of the novel coronavirus and providing necessary medical care to the infected, a full recovery to pre-crisis output growth is a foregone conclusion.
The government should then implement effective short-term measures to support struggling households (through cash transfers and in-kind food subsidies) and businesses (with subsidised low interest loans, credit guarantee schemes, tax deferrals, moratoria on debt services, and equity injections in promising firms). This calls for both a growth-enhancing revenue policy and an expenditure policy designed to stabilise the economy in the short term, followed by structural reforms to boost long term growth potential.
However, since this entails additional fiscal burden amidst limited resources, the third priority should be a smarter fiscal strategy. For instance, expenditure should be reprioritised to address the healthcare crisis. It means investing in temporary Covid-19 care centres, increasing hospital beds and ventilators, increasing availability of affordable and hassle-free testing, and tracing potentially exposed people effectively, among others.
Similarly, to boost short-term aggregate demand, the government could prioritise shovel-ready projects that can be completed within the next two to three years, or simply focus on the maintenance of existing assets (especially water supply, irrigation canals, bridges, rural roads and highways, transmission and distribution lines, etc) and the completion of ongoing projects. It will not only give an immediate-term boost to public sector-led demand at a time when private sector demand is subdued, but will also create badly needed manual and low skilled jobs for returning migrant workers. Initiating new projects that are short of project readiness should not be the priority for the short-term. To save scarce resources, the government could think of ending subsidies on fuel and all discretionary handouts.
To generate more resources to finance short-term needs, the government could also focus on securing policy-based loans from development partners. A well-planned set of sectoral reforms with clear policy, regulatory, institutional and legal framework would serve as a basis for securing policy-based loans. The post-Covid-19 era is a defining moment to initiate consequential structural reforms similar to the ones rolled out in 1992. Public financial management reforms, such as in robust medium-term expenditure and revenue frameworks, streamlined processes across the three tiers of government, and legal cap on central and provincial fiscal deficit, are important. The digitisation of government services, integrated social protection platform for better identification and to control leakages, and core sectoral reforms in energy, water supply, roads, education and health sectors are other key areas. Another key avenue for development is an overhaul of the vocational training curriculum to provide reskilling to shrinking sectors such as travel and tourism. In business, the promotion of economic corridors to boost enterprise on the one hand, and a facility to resolve bankruptcies sooner for struggling organisations on the other would both go a long way to boost growth and recovery.