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Tuesday, June 15, 2021

Explained Ideas: Why merely more govt spending will not help Indian economy

India needs to broaden its consumer base beyond the top 10- 20 per cent of the population to improve long-term growth prospects, write economists Suvodeep Rakshit and Avijit Puri.

By: Explained Desk | New Delhi |
Updated: September 2, 2020 10:22:23 am
India economy, India GDP, India GDP contraction, Indian Economy, India Covid 19 economy, Indian ExpressRoadside balloon sellers take shelter under a flyover during rains in Mumbai on August 31, 2020. India’s economy contracted by 23.9% in the April-June quarter, its worst performance in at least 24 years. (AP Photo: Rajanish Kakade)

Suvodeep Rakshit and Avijit Puri, both economists at Kotak Institutional Securities and Kotak Mahindra Bank, respectively, write about the GDP contraction in the first quarter arguing that “with or without the pandemic, the prescriptions for long-term growth remain the same — broaden the consumer base by empowering the low and middle-income consumers rather than pushing consumption itself”.

In the wake of the economic crisis, many have asked for higher government spending to bail out the economy. Rakshit and Puri disagree.

Why can’t the government just spend to revive growth?

First, in all likelihood, temporary incomes coupled with job/income uncertainty will induce precautionary savings without any impact on growth. Second, the fiscal situation was weak even before the pandemic. With revenues having cratered, funding of additional expenditure is through higher borrowings. Any incremental debt should be seen in the context of future investments being hampered due to current consumption.

“It is easy to prescribe abandoning fiscal prudence or ‘printing money’ to fund spending. But the risk-reward ratio is far from being benign,” they state. “We should note that India’s public debt/GDP will likely reach around 85 per cent and the consolidated gross fiscal deficit to GDP ratio could be around 12.5 per cent this year. Assuming gradual fiscal consolidation, these metrics will take quite a few years to revert to pre-COVID levels. Rapid consolidation will adversely impact growth,” they write. This sets the base for any kind of “stimulus” — it should be well-targeted and have a large multiplier effect.

Instead, they argue, that “India needs to broaden its consumer base beyond the top 10- 20 per cent of the population to improve long-term growth prospects”.

This cannot happen with regular doses of consumption stimulus but through creating steady and well-paid employment for the bottom and middle segments. “To borrow the thought from the economist Rathin Roy, the composition of aggregate demand needs to change and focus beyond the top 100-150 million-odd consumers”.

So what should be done?

“Ideally, most public spending should be directed towards sectors such as roads, railways, infrastructure, healthcare and educational facilities to help rebuild the economy,” they state.

To promote infrastructure creation along with private sector participation, the government needs to charge an economic price for goods and services such as power, irrigation, and public utilities, establish the rule of law with minimal interference in pricing, streamline processes for quick approvals and ensure timely payments to private operators.

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“To achieve economic growth of 7-8 per cent that is sustainable over the next decade, the government needs to start addressing some of the traditional sore points such as the large infrastructure deficit, the weak financial sector, archaic land and labour laws, and the administrative and judicial hurdles. If it fails to do so, India’s potential growth will be much lower and we risk losing a decade of favourable demographics,” they conclude.

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