A case for caution: India’s path to economic recovery

India, as with most of the world has been impacted severely by the coronavirus pandemic and the subsequent lockdown imposed by the government. While we are in the process of reopening the economy, many of us hope for a quick return to normalcy. However, According to the production and inflation data, normalcy might be a far cry for the Indian economy. 

The headline figure of a decline of 23.9% in the GDP for the first quarter of financial year 2020-21 released in July showed the depth of the shock to the economy. Index of Industrial Production (IIP) shows a sharp decline in manufacturing across all sectors. Labour intensive sectors such as textiles (-37.3%), leather (-32.7%) and primary products such as basic metals (-21.6%) have been hit hard by the lockdown(Source- IIP Data and author’s calculations). As more workers get laid off, consumption declines which leads to low demand for manufactured goods, which leads to even more workers getting laid off thus creating a vicious cycle. Many pundits point to the increase in expenditure around the festive season and gradually increasing industrial production as signalling economic recovery. However, as the adage  goes,  one swallow doesn’t make summer, India’s economic recovery may not come easily. It faces more challenges than just production numbers as other core sectors dip significantly. 

India’s economy is heavily dependent on the services and agricultural sector. The agricultural sector employs more than 50% of the entire workforce while services contributes to 50% of India’s GDP. The services sector has seen a decline of 20.6% in Q1 of FY21 in gross value added (GVA) while the trade, hotels, communication and transport sub sector is facing a decline of 47.0%. 

The only sector that has shown growth is agriculture with an increase of 3.3%. This is expected as the government has imposed the least restrictions on this sector.  A copious monsoon has also led to a good harvest. However since the pandemic has now spread to rural areas it could cause a reduction in the agricultural sector. 

According to SBI research, manufacturing has seen a decline of 38% in gross value added. Net taxes (the difference between GDP and GVA) has declined to 1.36 lakh crore, the lowest in 7 years. The decrease in tax payments also limits the government’s willingness to spend as it increases the fiscal deficit.

The problem facing the Indian economy is threefold- demand has dipped significantly, inflation is rising and the supply chain has been disrupted. In the past year where the economy has seen a slowdown due to disruptions in the credit market, private consumption has been a significant pillar which has stood strong. In 2019, it contributed to about 57% of the total GDP. With private and public investment unlikely to increase due to underutilized capacity, private consumption will be a significant contributor to GDP this year as well. According to an SBI report the private consumption is set to decline by 14% due to the decrease in spending during the pandemic. The expenditure side of the GDP also shows a decline of 22% in demand impulses. Until the government intervenes directly to stimulate demand, we are unlikely to see a quick recovery. 

India is also facing a problem of stagflation (high inflation, low growth, high unemployment) as we take a look at the latest inflation numbers released by the RBI. CPI has gone up by 11.07%, 10.68%, 9.05% in the past three months. In India, inflation is measured using two indices. The Consumer Price Index (CPI), which measures the prices the retail customer gets, and the  Wholesale Price Index (WPI) which measures the wholesale price of goods and services. 

 The WPI came into positive territory only in August. Over the past three months, it has been 0.41%, 1.32% and 1.48%. The numbers show a clear divergence between consumer prices and wholesale prices. While one might point out this divergence may be due to hoarding/overcharging by wholesalers, this is unlikely to be the case. What these numbers point to is a supply chain disruption, wholesalers are unable to supply goods consistently to retailers leading to short term supply drops and increasing prices. This is due to the uncoordinated unlocking between states. As states continue to unlock/impose restrictions on their economies with respect to the number of cases, this trend of disruption seems to continue until next year. 

Policy Proposals

The Indian establishment faces a unique challenge as the biggest shock of its existence comes to fruition. The RBI has already lowered the repo rates (the rates at which RBI lends money to commercial banks) by 125 basis points this year. By decreasing the repo rates, RBI has made it easier for banks to obtain more money which can be used for loans to the populace.  The finance ministry has announced a slew of measures focusing on emergency credit lines, loan restructuring and providing support to distressed sectors such as housing under the brand name Atmanirbhar Bharat. However, as we see private consumption and investment collapsing, now is the time for even more radical measures to support the rural and urban lower class. 

One way the government can find immediate impact is to increase the outlay towards the National Rural Employment Guarantee Scheme (NREGS). NREGS guarantees 100 days of unskilled work to all households for a fixed wage rate. This can be increased to 150 days to support many migrant workers who have been laid off. The wage rate can also be increased to provide further support to households. Another way of directly stimulating demand is to implement something like stimulus payments like the USA. This would directly put money in the hands of the people helping shore up demand quickly. In the longer term, a Universal Basic Income (UBI) could help mitigate these shocks. While we expect economic recovery to be quick in the coming months looking at festive demand spending and increase in industrial production. The data shows us that the path to recovery requires a lot more proactive measures from the government.  

Rochak Jain is a fourth year student of economics at Ashoka University.

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