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that the economic slowdown is clearly making itself
felt in both economic activity and employment, the central
government has finally decided to do something about
it. The trouble is that the economic package announced
on Sunday is simply too feeble to go very far and, even
combined with the monetary policy measures announced
earlier, is unlikely to reverse the overall decelerating
tendency.
Thus far the government had focussed on the financial
side of the current crisis. There were measures to infuse
liquidity into a banking system that had become very
constrained by reducing the Cash Reserve Ratio and the
Statutory Liquidity Ratio, to reduce interest rates
by bringing down repo and reverse repo rates, and to
provide some relief to non-bank financial institutions,
particularly insurance companies. These were confidence-building
measures that were apparently necessary because (despite
official claims to the contrary) the Indian banking
system had in a less severe form, several of the fragilities
that undermined the US banks.
But the monetary measures that were supposed to deal
with the credit crunch all proved to be lacking because
they did not accept the need to deal with the liquidity
trap characteristics of the current economic situation.
Banks are unwilling to lend to any but the most credit-worthy
potential borrowers, but such potential borrowers are
unwilling to borrow because of the prevailing uncertainties
and expectation of slowdown. Meanwhile, all other enterprises,
even those who desperately require working capital just
to stay afloat, find it increasingly difficult to access
bank credit even as they face more stringent demand
conditions.
In such a situation, reducing interest rates does not
solve the basic problem of tightened credit provision,
even though it may marginally reduce costs for those
who are able to access bank credit. Some of the measures
seemed to be more designed to push up the stock market
than to revive the real economy. But already, in addition
to the credit crunch, the slowdown has led to very rapid
deterioration in market conditions facing many producers:
for example, exporters, especially small-scale producers;
the construction industry, which is a very large employer;
most of all, agriculturalists producing cash crops whose
prices have collapsed.
So it has been clear for some time that a fiscal stimulus
is essential, and it was almost a mystery why the government
took so long to announce one. Indeed, the rather pathetic
attempts of the Prime Minister and ex-Finance Minister
to declare that they had anticipated the global downturn
by including a large fiscal deficit in the annual budget
(when in fact it was no more than the result of some
pre-election sops offered out of political exigency)
even led some to suspect that no new fiscal package
would be forthcoming. Of course, this would be absurd
– but then, the straitjacket of neoliberal economic
thinking has created even greater absurdities in the
past.
Anyway, the central government did finally announce
a fiscal package, which was by then much-awaited. But
unfortunately the promised fiscal expansion is a rather
small one – only up to Rs. 20,000 crore of direct additional
spending through the Planning Commission in unspecified
areas. This is less than 0.5 per cent of GDP, a tiny
fiscal input which is too small to be really countercyclical
or even to change the expectations of private agents
in any meaningful way.
This direct spending is combined with a tax cut measure,
on domestic duties – the ad valorem Cenvat rate is to
be reduced by 4 percentage points. This will have an
impact in terms of supporting economic activity only
if producers respond by cutting prices, and such price
cuts generate demand responses. But neither is inevitable.
For example, the recent cut in the price of aviation
fuel was not passed on to consumers by the airline companies,
and even now only one carrier has promised to reduce
the aviation fuel surcharge. So that particular measure
simply became an additional subsidy to shore up profits
of airline companies.
It is not clear whether this Cenvat reduction will meet
the same fate, reducing government revenues without
generating more economic activity. But certainly it
is true that in times of economic uncertainty, tax cuts
are much less effective in stimulating activity than
direct government expenditure.
The other measures are really rather modest in scope
and niggardly in content. The only substantial measure
directed to highly employment-intensive units in exporting
sectors like textiles, garments and leather is a small
reduction in the interest rate on export credit. In
addition, there are some small tax concessions and a
tiny (Rs. 350 crore) addition to export incentive schemes.
These are hardly likely to counteract the effect of
big losses of export orders as the major markets start
shrinking. What was required was a more serious and
systematic attempt to allow these industries to keep
producing at technologically efficient levels and shift
demand to other markets.
The mention of expanding the Indira Awas Yojana is surely
welcome – but note that the money for it is supposed
to come out of the Rs. 20,000 crore package rather than
being additional to it. The measures to provide more
finance and loan concessions for small borrowers of
home loans are also welcome. Refinancing of small, medium
and micro enterprises is important, but how well the
new mechanism will actually function is not clear, and
the amount announced (Rs. 7,000 crore) is relatively
small.
Some of the proposed measures make very little sense
– for example the elimination of export duty on iron
ore fines and reduction of export tax on iron ore. There
is really no reason why India should want to incentivise
the export of iron ore, rather than encourage the domestic
processing of it into steel.
But what is even more significant is what the stimulus
package leaves out. It is not just that the overall
size of the package is too small to have much of an
effect. It is also that some of the most critical areas
of spending have been neglected.
State governments have already started feeling the resource
constraint as their tax revenues are affected by the
economic downturn, and they are responsible for most
of the public services that directly affect people,
such as those relating to agriculture and rural development,
health, sanitation, education and so on. Yet there is
nothing proposed to alleviate the fiscal crunch of state
governments, who face a hard budget constraint. So the
overall conditions of life of the citizenry are likely
to be affected. Yet the Centre could so easily have
announced some measures to provide fiscal relief to
the States to help them cope with the adverse effects
of the downturn. Such measures could include reducing
interest rates, providing more central funds and most
of all relaxing fiscal responsibility norms that are
inappropriate for the current situation and which the
Centre itself has already discarded.
Similarly, the food crisis has been forgotten in all
the excitement about the financial crisis, but food
insecurity remains widespread and may even be spreading,
given the significant rise in prices over the past two
years. While overall inflation has been easing, food
inflation in India continues despite large food grain
stocks. And the real incomes of workers and cash crop
cultivators have not kept pace with this. Poor or inadequate
nutrition is already a big problem, which will deteriorate
as the downturn worsens. This is a time to allocate
much more money on expanding, universalising and improving
the functioning of the Public Distribution System. This
would at least partly alleviate the problems of those
who are already at the margin of survival, as well as
those who could be tipped over into poverty by recent
economic processes. Yet there is no mention of any such
attempt in the package, or of any actions to address
the problems of cultivators.
So this is a partial, half-hearted and essentially unconvincing
attempt to deal with an economic situation that is likely
to worsen in the near future. This may be because the
central government itself is not fully convinced of
the need for clear Keynesian measures, or does not even
understand what these should consist of. It is hard
to see what else is preventing the government from acting
more decisively.
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