Funding the recovery: government urgently needs to reform subsidies to create fiscal space
India’s growth forecast is now 1 to 2 percentage points lower due to the second wave of coronavirus. But there are many indications that the economic cost may be higher, consumer demand may remain subdued longer than currently expected. The vaccine shortage means reopening after the lockdown will plant the seeds for another round of infections; Mixed and uncertain prospects for rapid mass vaccination suggest that Covid-19 will remain in place without any certainty as to how it will unfold. Economic uncertainty has therefore become very high. Due to the more severe impact of the pandemic this year and the lack of clarity of way out of its miseries anytime soon, income support is now imperative. The government can no longer stand aside. With his deplorable financial situation, he must now think structurally and start creating space for income assistance, the extent and duration of which is as uncertain as the pandemic. It must prepare for budgetary action through structural reforms of revenue expenditure. They can no longer be delayed.
There are sufficient reasons to suspect a serious shock to consumption which could linger for many quarters and not rebound strongly like last year. Qualitative and quantitative distinctions include the lethality and spread of the virus, severe human and economic scars, the persistence of fear as a result, and the anticipated third wave with magnification due to lack of guaranteed vaccination, sturdiness financial drained of health spending and loss of income in the second round. in less than a year for many, increased debt, higher impact on lower income groups, lack of demand support, among others. Enough to depress consumer sentiment, reduce and / or hold back discretionary spending, and save more to guard against future health shocks.
Second, the stress on the supply side also seems to be building up. MSMEs are affected by closures that hamper the sales and purchases of raw materials, due to supply chain links and the inability to withstand prolonged pressures. Large companies are affected by labor shortages due to migration, infections or fear in addition to the ban on the use of oxygen, declining sales and uncertainties in the future. future demand. Weak demand for credit and loan restructuring is the financial counterpart. The booming corporate profits in the March quarter suggest the K-shaped recovery is taking hold, deepening inequality. Third, it is obvious that there is no wedge in infection and mobility; it was misleading to believe that India had succeeded in breaking the infection-mobility nexus as some did last year. It is more realistic to expect that reopening will be accompanied by more infections in the months to come.
A widespread pandemic of unknown duration and spread means a worsening employment income situation for vulnerable segments of the population. RBI alone cannot lead with its monetary measures; in any case, it hasn’t helped since the pre-pandemic period or FY20. Public banks also cannot be a fiscal arm more than they already are without endangering financial stability because the pandemic has increased this risk. Fiscal policy can therefore no longer be absent. The economic conditions of vulnerable households are such that income support is absolutely essential. Increased uncertainties also make it difficult to assess the extent and duration of such assistance. But we have to start.
With government debt accounting for 90% of GDP, debt sustainability and macroeconomic stability are a constraint and compelling concerns. The government has also neglected to share its views or to revise the fiscal rules (the FRBM law) or to present a detailed medium-term fiscal adjustment plan since the presentation of the budget. Action in this direction may have helped to build strength and confidence to overcome revenue shortfalls, to exceed spending limits without raising concerns about debt sustainability. Now he’s looking at a shrunken denominator (nominal GDP growth) in the deal.
To avoid such risks, most advocated that budgeted spending be redirected to meet emergency health and income needs. But this is unlikely to be enough; the fact that the government is not even willing to commit the meager amount required to purchase vaccines is proof of this. How far can it go? It is time for the government to think structurally and start preparing fiscal space for this emergency of unknown magnitude and longevity. Just as it responded to Covid-19 with structural reforms last year, it must now follow with deepening revenue-expenditure reforms. Reforms of agricultural marketing and institutional structures, accounting transparency by recording arrears of subsidies (food, fertilizers), increasing LPG prices, have all been commendable efforts in this direction. But more recently, there has been a regression with increasing fertilizer subsidies instead of revising emission prices.
This derails the momentum for reform and undermines the credibility of efforts and commitment to improve finances. Given its precarious debt situation but its pressing need for income support, the government must now prepare a roadmap to restore order through a credible buyback plan. This should aim to reduce subsidies in the medium term, from now on modestly, in order to show commitment and restore credibility. For example, it can choose between different ways of moderating the food subsidy, i.e. rationalizing the eligibility and the number of beneficiaries, revising the issue prices or a mixture. There are other social and often populist spending, both at the state and central levels, which have been on the rise for far too long and have become unsustainable. General finances have eroded, production spending has been lost and it is shameful that there is no room to support its people in a devastation of this nature and magnitude.
It is clear that fundamental changes can no longer be delayed. Now is the time to do accounts, as difficult as it may be.
The author is a New Delhi-based macroeconomist