Fighting our way out: policy stimuli and preparing for the new normal
a. Policy stimuli
On the monetary side, the repo rate was reduced to a historic low of 4.4% on 27 March 2020. Numerous liquidity-augmenting and regulatory measures have also been undertaken since then. Liquidity augmenting initiatives include a reduction in the CRR, targeted long-term repos operations (TLTROs), reduction in the reverse repo rate, special refinance window for all India financial institutions, and eased overdraft rules for state governments. The RBI also increased the limit under ways and means advances (WMAs) for the central and state governments. In TLTRO 2.0 (aggregate amount of INR 50,000 crores) that was announced by the RBI on 17 April 2020, it was mandated that the funds must be invested in investment grade bonds, commercial paper, and non-convertible debentures of NBFCs, with at least 50% of the total amount availed going to small and mid-sized NBFCs and MFIs. The regulatory initiatives of the RBI include permitting commercial banks and financial institutions to provide moratorium of three months on payment of instalments in respect of all term loans outstanding as on 1 March 2020 and deferment of interest on working capital facilities for three months on all such facilities.
While the need for a large fiscal stimulus to support relief and stimulus measures is paramount, the available resources for the government appear to be highly constrained when we match the public sector borrowing requirement (PSBR) with the sources of its financing. India has stepped into the COVID-19 crisis on the back of two successive years of fiscal slippage where the central government had to provide for a countercyclical relaxation of 0.5% points of GDP each from their respective targets in FY20 (RE) and FY21 (BE). India is far more handicapped at present as compared to the 2009 crisis when we experienced five successive high growth years over the period FY04 to FY08. The average growth rate during this period was 7.9%. In FY08, the combined fiscal deficit of the central and state governments was also at its lowest at 4.1% of GDP.
As compared to the FY21 budget estimates (BE), both the central and state governments would suffer a significant revenue erosion due to the lower FY20 tax base and lower growth prospects in FY21. Factoring in the lower GDP growth and slippage in tax revenues and non-debt capital receipts as compared to BE, the slippage may amount to a minimum of 2.4% of GDP considering centre and states together. Considering an additionality of 0.3% of GDP in the relief package of INR 1.7 lakh crore announced under the Pradhan Mantri Garib Kalyan Yojana, the combined fiscal deficit may have to be increased from 6.5% to 9.2% of GDP just to meet budgeted expenditure. Providing for additional stimulus spending of 3% of GDP for the central government, 1% of GDP for the state governments, and a borrowing requirement of 3.5% of GDP by the central and state public sector enterprises (PSUs), the total PSBR is estimated at 16.7% of GDP. Against this, the available sources of financing consisting of excess savings from household and private corporate sectors (7% of GDP), savings of the public sector (1.5% of GDP) and current account deficit (1% of GDP) add to only 9.5% of GDP, leaving a significant financing gap of 7.2% of GDP. Some of the channels through which this gap may be filled up include monetization of fiscal deficit, borrowing from multilateral institutions including the IMF, and borrowing from NRIs.
b. Exit strategy
India’s first three-week lockdown which was slated to end on 14 April 2020 has now been extended up to 3 May 2020. In the month of April 2020, the economy was at a near-standstill. As and when economic activities resume, they may not normalize for a long period of time. In fact, the resumption of activities needs to be according to a well-thought out exit strategy. Different output sectors may resume activities at different pace as the health pandemic is gradually brought under control. Sectoral targeting of fiscal stimulus should be synchronized with the opening up of the relevant sectors. India’s FY21 growth would depend critically on the pace of opening up of the sectors and the extent of stimulus.
[1]. Some rating agencies have predicted a contraction for India in FY21. Both Goldman Sachs and Nomura estimate it to be (-) 0.4%.