Monetary and fiscal measures taken
One of the big lessons of the 2008 crisis was that while crises cannot be averted, they can be managed with an appropriate combination of monetary and fiscal stimulus. Unlike in 2008, when the Indian government and the RBI were a lot more circumspect, the move was much quicker this time around.
On the monetary front, the RBI cut rates by 135 basis points between Feb-19 and Feb-20. The Monetary Policy Committee (MPC) rapidly changed its monetary stance from calibrated tightening to neutral to accommodative. Above all, the transmission worked perfectly post the shift to external benchmark pricing of loans. The weighted average lending rate (WALR) fell by 71 bps or 0.71% between Feb-19 and Feb-20.
On fiscal policy, the government had opted for a counter-cyclical approach since OROP in 2016. In the previous year, central fiscal deficit (CFD) escalated to 4.5% and is likely to get closer to 7% in FY21. Apart from easy liquidity to NBFCs and stressed households with government guarantees, it announced additional fiscal outlay of 0.80% of GDP during the year. This included fiscal support for farmers, MSMEs and migrant labourers; the backbone of factories. It is in this background that the outlook for the fiscal needs to be looked at.
Prospects for 2020-21 – RBI raises hard questions
The COVID-19 pandemic has placed a question mark over the prospects of the India growth story. Here are highlights of the RBI outlook in its annual report.
- Activity in the economy appears to have bottomed out. That is evident from the pick-up in high frequency indicators like IIP and core sector activity post May. While April and May were washout months, negative growth continues in June and partially in July also. RBI annual report has raised the prospect of deep negative growth in GDP for the Jun-20 quarter and the Sep-20 quarter.
- While other global economies, including China, managed to recover after the initial spurt in afflictions, India is having a longer struggle. Apart from more stringent lockdown and social distancing measures, India was also impacted by low levels of per capita income, dependence on urban India for jobs and the lack of social security. This could impact medium-term demand.
- As per RBI, there are two key challenges. The ability to consume and willing to consume are different. For growth to return and consumer spending to pick up, it will require ability and willingness to spend. Secondly, supply chains are still under pressure, Chinese supply chains are still disrupted and urban labour is loath to coming back from villages. These add to the strain on growth in fiscal 2020-21.
- The massive stimulus has a negative side-effect. The overall stimulus was 5.1% in case of emerging markets and 19.1% in case of developed economies. This $6.5 trillion liquidity boost has created a big problem of asset inflation, which is evident in most equity indices scaling life-time peaks.
- RBI has warned that the stimulus means global governments are taking on the job of resource allocation, which is normally done by markets. This could have larger repercussions for the way governments view and deal with businesses.
- While global trade is likely to see 15% contraction globally, the good news is that Brent Crude has remained subdued and is likely to remain around $42/bbl. RBI believes that the wealth effect of cheap oil could create a value advantage for India.
- RBI survey for July noted that consumer confidence had fallen to an all-time low. Urban consumption has dropped by a third. However, this will be partially offset by a good monsoon, a bumper Kharif and a boost to tractor sales. This is likely to keep inflation in check and rural demand high during the year.
- RBI noted that the corporate tax rate cuts of Sep-19 were deployed to repay debt and build up cash balances rather than in capital investments. However, that did help companies to weather the COVID crisis.
- India is emerging as a leading producer of milk, cereals, pulses, vegetables, fruits, cotton, fish, and poultry. This calls for a greater shift in terms of trade favouring agriculture and horticulture as the low hanging export fruit.
- RBI has underlined that COVID should be seen as an opportunity to expand India’s success in IT to other areas like healthcare, digital technologies and tourism. That would be a good way to ensure that India does not waste the crisis.