The task before India is not only to come out of COVID-19 but also to ensure the economy's potential is achieved and growth is the only answer to many of our socio-economic problems, whether it is reducing poverty or improving the standard of living for the vulnerable groups. This is one of the many important messages shared by economist and former Reserve Bank of India governor Dr C Rangarajan. He shared this in a recent webinar on the "Macroeconomic Challenges in the Post-COVID scenario in India", organised by the Indian Institute of Management, Ahmedabad (IIMA) alumni as part of a golden jubilee reunion of the PGP batch of 1968-70.
In his crisp, measured and backed-by-numbers talk, Rangarajan laid out the economic challenges before the country and the growth agenda needed to deal with it and also make a meaningful difference: "We are a little over $2-trillion economy today and to more than double this, we need to grow at 8 to 9 per cent per annum for a period of 6 to 7 years. Even then, our per capita income will not make us come to the level of a developed country. To get to their levels of per capita income, India needs to grow at 8 to 9 per cent per annum for 22 years. That is the kind of challenge we have in this country," he says.
Time for sector-specific reforms
Rangarajan also emphasised on the role of reforms in boosting growth. "As the early 1990s showed, reforms are needed to achieve growth. The focus in early 1990s, the focus of reforms was to remove the controls and creating more competitive conditions. Now, what is required is to look at specific sectors of the economy and work on what is required to be done. Be it agricultural marketing, in power sector, telecom. All these are areas where we need to move faster by introducing the set of appropriate reforms." Land reforms and labour reforms are also needed but, he says, they come with a caveat: labour reforms are easier to introduce when the economy is on an upswing. "Therefore, we need to wait until the economy and employment pick up. COVID-19 came in an economy which was earlier sliding down."
But he was very clear, on what India needs to focus on at the moment: "Today, it is not enough to come out of the impact of COVID-19, it is important to go back and achieve the growth rates we had earlier between 2005-06 and 2007-08. Only then we will be able to solve many of our problems."
Limits to monetisation of debt
On the ways to deal with the current crisis, he talks of the two kinds of measures that are available - the monetary and fiscal measures. Both have a role to play. On the fiscal measures, he says, "There is need to expand expenditures and direct more of it into investment and also some amount of monetisation of the debt (which most read as printing of notes) and wisdom lies in striking an appropriate balance. Dr Rangarajan, who has not been one who has favoured monetisation of debt but under the current circumstances, feels, some amount of it may be inevitable. Therefore, he also prefers a cautious approach.
Of brakes, accelerator & monetary measures
On the monetary measures, which again, he says, are needed and hails the proactive stance taken by the Reserve Bank, but the extent to which they will make an impact will need to be watched. "There is an old saying in central banking world that says the monetary system has got efficient brakes but the accelerator is uncertain. This is because of the fact that when you raise the rate of interest strongly then it does affect the actions of the people but when you lower the rate or augment the liquidity, it is only facilitating. But whether it will actually lead to the (credit) expansion that you desire remains to be seen. There are other factors that also come into play. Therefore, while the Reserve Bank of India has been proactive and the measures that have been taken are in the right direction but how far they will help in stimulating the economy remains to be seen."
On fiscal policy, there are concerns and a lot needs to be watched. He said, "It is often argued that whenever there is a weakening of the demand. The best way to stimulate to demand is by increasing the public expenditure by the government. In fact, the original Keynesian analysis did not make a distinction between the types of expenditure and leading the famous expression: 'digging holes and filling them up.' The idea is that so long as there is government expenditure it will stimulate demand. But now, of course, we make a distinction between the types of expenditures needed."
How far can you raise the fiscal deficit?
Unfortunately, he says, the government was at a difficult fiscal situation even at the beginning of the current fiscal year. "Even when the Finance Minister presented the budget in February, it was a difficult situation and the fiscal deficit had to be pegged at a higher level of 3.5 per cent. But even then, many analysts felt looking at the expenditure and revenue projections, perhaps the fiscal deficit would be exceeded and there would be difficulty in holding it at 3.5 per cent of GDP. Therefore the real issue is how far can we go in increasing the fiscal deficit. You may recall that the revenue projections for 2020-21 were made by the Finance Minister on the assumption that the overall income growth in nominal terms will be 10 per cent. But today, the nominal growth in the economy will not exceed 4 to 5 per cent. Therefore, it is nearly half of what the growth in revenue was expected when the budget was presented."
Not surprising, one may not be off the mark to expect a steep decline in the revenue collections of the government, resulting in an increase in the government's fiscal deficit. On what he expects, Rangarajan says, "I am of the view that additional expenditures will need to be made and given the fall in revenue collections, the overall fiscal deficit of the centre will go up to about 5.5 per cent. To this, some economic stimulus expenditures need to be added, which now come to about 1.5 per cent. Therefore, as against the 3.5 per cent of the GDP as originally planned in the budget, perhaps the fiscal deficit of the government of India will be 7 per cent of the GDP. The state governments are allowed to incur a fiscal deficit of up to 3 per cent of the GDP. And now, relaxation has been made for another 2 per cent which as is expected all will opt for."
Fiscal deficit at 12% of GDP
There are three types of expenditures, Rangarajan explains - firstly, healthcare expenditures; second, taking care of those who have been thrown out of employment like the migrant labourers; and third, some economic stimulation expenditures (many of the measures announced by the government in this are not budgetary in nature). Therefore, he says, "what you have is a situation where the fiscal deficit of the Centre and the states put together will be 12 per cent of the GDP. Those, who have looked at the recent world economic outlook of the IMF, they have put the fiscal deficit of India at 12.1 per cent of the GDP. China's fiscal deficit has also been put at 12.1 per cent of the GDP. There is only one other in the world that had an expected fiscal deficit figure of more than 12.1 per cent of the GDP and that is the United States," he says.
The need for a higher level of government expenditure cannot be argued against as it is needed and the government has a role to play as the stimulant of the economy but the question is how high can you go as far as the question of fiscal deficit is concerned? We are now talking of a fiscal deficit that is twice as much as that stipulated under the various acts like the fiscal responsibility and budget management act.
To meet this deficit level of 12 per cent of GDP, other than the bonds that the government will float, he feels the government will need the help of the Reserve Bank of India. The support from RBI, the implication will be monetisation of debt or expansion in the money supply. But then, he cautions: "When the money supply is increasing at a time when the output is not increasing or perhaps increasing at a very slow pace then it can only result in prices rising, if not in the current year then in subsequent years. The high level of fiscal deficit in 2008-09 and 2009-10 of Government of India, which at that time was 6 per cent of the GDP, resulted in later years showing the impact of increase in money supply on prices." That gets us back to the growth and the sector-specific reforms that will now be needed.