Opinion A new RBI report underlines that monetary and fiscal policies need to be adjusted to secure growth prospects

Last week the Reserve Bank of India released the Report on Currency and Finance 2021-22. It provides a frank assessment of the state of the Indian economy, beginning from its analysis of the economic slowdown prior to the pandemic, and going on to its evaluation of the post-Covid scenario, and the challenges facing the economy. Considering that one of its observations is that “India is expected to overcome Covid-19 losses in 2034-35”, close attention needs to be paid to the concerns highlighted in the report, and its policy prescriptions.

India’s economic prospects had worsened even prior to the pandemic, with growth beginning to slow down in 2017-18. This slowdown, as the report notes, “coincided with sluggishness in the labour market”. Subdued labour market prospects, coupled with household leverage and domestic shocks pulled down private consumption, which forms the backbone of the Indian economy, even prior to Covid. These weaknesses were exacerbated by the pandemic. As the report notes, “the Indian labour market witnessed a sharp deterioration during the first wave of the pandemic with unemployment rate touching a record high and the labour force participation rate plummeting”. And while the economy staged a quick recovery from the depths seen during the peak of the pandemic, the recovery has been uneven. Sectors such as trade, hotels, transport, communication and services, which are also labour intensive, have fared poorly. While the healthier firms have fared better, “weak firms remained vulnerable with negative profitability, indicating a divergent recovery within the organised corporate sector”. And this is only the formal sector. The toll on the informal sector has been considerably higher. However, despite this uneven recovery, the report has assumed that the economy will grow at 7.2 per cent in 2022-23, and 7.5 per cent thereafter to recoup the losses due to Covid. But considering current trends, and that the economy had slowed down to below 4 per cent towards the end of 2019-20, it would appear that these growth projections are optimistic. It may take longer to fully overcome the setback.

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The report has also outlined the policy agenda for a post Covid economy, beginning with the “rebalancing” of monetary and fiscal policies. This will involve draining out excess liquidity, for monetary policy to focus on price stability, and for the general government debt-to-GDP ratio to fall to more manageable levels over the next five years. These steps are needed to secure the country’s medium term growth prospects, which the report has pegged at between 6.5-8.6 per cent.

This editorial first appeared in the print edition on May 4, 2022 under the title ‘Terms of recovery’.