Ensure as few firms shut as is possible PDF Print E-mail
Friday, 17 April 2020 00:00
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Apart from huge health expenditure and funds for poor, set up govt-guaranteed fund to backstop all MSME loans

Taxes slipping by 20-30% will raise the deficit by 2-3% of GDP & take the PSBR to 11-12%. A downgrade can then happen and that will lead to FPI funds exiting in a big way. So need to spend carefully


Much has been made of the small size of India’s fiscal stimulus in relation to that in the US (15% of GDP) and several European countries—23% of GDP in Germany, 26% in the UK. While that is true, it has to be kept in mind that India already had a sizeable Public Sector Borrowing Requirement—PSBR is what the government, and PSUs borrow—at around 9% of GDP, and that is what keeps interest rates high. Even a 20-30% slippage in FY21 tax collections—and we are not even talking of the divestment and telecom receipts—will push the PSBR to 11-12%, and can well trigger a sovereign downgrade. Keep in mind, India is just about investment grade, so it needs to tread with care in a situation where plummeting GDP makes India’s financials look terrible.

Should that happen, not only will most debt and equity FPIs want to exit the country, many will be obligated to by law. So, India needs to spend its stimulus package carefully, keeping in mind that the additional spending will not prop up GDP by much, or save everyone. If it is successful, however, it will save most of the big employment generators. There is obviously a moral hazard in deciding to save firms, but if this is not done, and money is given, say, to just the poor via Jan Dhan accounts etc, a very large number of firms will shut down and, without enough firms to provide jobs, the government will have to provide dole for a much larger number, and for several years. In other words, a large stimulus package is insurance to prevent further damage later.

Ideally, the government should try and save even the larger firms, but since it doesn’t have the money to do this—this is why, for decades, economists have been advising successive governments to reduce the deficit—it may need to focus just on the big employment generators for now. Any package, it has to be emphasised, will be viewed with suspicion unless the government is able to convince rating agencies and investors that the stimulus is temporary. Keep in mind that while the FY23 target is a 3.1% fiscal deficit, the original plan was to have a 3% deficit in FY09!

It is difficult to get a handle on the amounts involved, but very clearly, the top priority has to be spending on dealing with the coronavirus—the costs of hospitalisation, ventilators, quarantine areas, PPE, etc. The second has to be giving the poor and lower middle classes money directly, to compensate for their job losses; there are other ways to target formal sector employees, but for those in the informal sector, this is probably the only way. This includes putting more money in Jan Dhan accounts, ensuring all FCI stocks are used to give grain to the needy for free, more MGNREGA money, work on rural roads, etc.

The next big component of the package must be directed at keeping businesses afloat. It doesn’t matter how good a business is, if there are no inflows, it cannot remain afloat for too long and without sacking lots of people, unless it is sitting on huge amounts of cash. Keep in mind, if real GDP is going to grow at near zero, there will hardly be any growth in nominal GDP. How many of these firms can be revived after they have shut down, and by when, is then difficult to say.

Ideally, the government should set up a fund to provide a full guarantee to banks and NBFCs if they keep lending to these firms as they did earlier; indeed, firms can be asked to furnish proof they are not sacking people. Ensuring that only those firms that banks were lending to continue to get funded will automatically rule out many like those in the real estate sector. Banks, after all, were not lending money to these firms as they weren’t even repaying the existing loans. Ideally, the fund should guarantee all loans, but whether the government restricts it to just large employment generators in the MSME sector, or extends it to others will depend upon its resources.

How this is to be funded is important, but the loss can be deferred if RBI relaxes its NPA recognition and capital adequacy norms for a year or so. Then, if the NPAs from the emergency loans touch, say, Rs 5 lakh crore, the government will have to fund this. Whether it does this through a bond, or whether RBI prints cash and buys its bonds directly can be decided later. Ideally, the issue of automatic monetisation should be addressed much later, when the government has a better grip on what is needed.

One way to convince investors and rating agencies that this is a one-time affair is, for instance, to fund this through Corona Bonds—maybe even present a Corona Budget separately, though one view is that even the general budget will now be a corona one. A big IMF loan is something the government should be looking at and, to show that it is serious about getting back to fiscal discipline, there must be immediately visible structural changes. Scrapping the fertiliser subsidy and FCI procurement, and replacing this with cash transfers of the PM Kisan type is one obvious solution.

A 30-40% cut in bureaucrats’ salaries, and a move to link them with market salaries, is another solution, considering how much more government employees get paid. Restricting the Food Security Act to the bottom 25% of the population instead of the 66% right now is another one of many solutions to cut flab in a structural manner. There are, needless to say, a host of changes the government needs to work on to convince investors it will no longer be anti-business (bit.ly/2XDgCTA), starting with the telecom reforms which have been stuck for more than a decade. A viable post-corona strategy needs more than just increased government spending, it needs to have an equally well-defined path back to austerity.


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