Government Must Step Up Spending To Revive Growth But It Shouldn’t Come In Form Of MGNREGA-Like Schemes 

In a previous joint article (with Pragya Gugnani), I had explained Modern Monetary Theory briefly.

In another article in July 2019, I had stressed on the need to revisit our understanding of macroeconomics, should we wish to sustain a high growth rate.

In 2020, perhaps, we will be revisiting a lot of the old debates that have taken place between different macroeconomic schools from time to time.

Leaving aside those debates, it is important to explain the complex relationship of fiscal deficit with current account deficit, debt sustainability and, of course, inflation.

These four indicators are at the crux of the debate regarding ‘fiscal stimulus’ that is taking place on the ‘op-ed’ sections of all major publications.

The majority view is that the government should spend to provide relief to companies from the economic fallout of the present pandemic – and therefore, that it is alright for the fiscal deficit to increase.

Where people disagree is, however, on the form of the fiscal stimulus, with some people arguing that it must come in the form of Mahatma Gandhi National Rural Employment Guarantee Act (MGREGA), while others are asking for it to come in the form of increased government expenditure on infrastructure.

In a recent joint paper with Dr Arvind Virmani, we’ve advocated for a temporary expansion in fiscal deficit, which must be reversed over the next couple of years.

This is essentially in line with the argument in favour of increased allocations for the infrastructure sector as the government has a very ambitious infrastructure pipeline, which as is, would need substantial commitments form the state.

The Government of India has already announced an extensive cash transfer programme for the poor and vulnerable during the lockdown.

This programme takes care of the need to provide a social safety net through direct intervention and India’s Jan Dhan, Aadhaar, Mobile (JAM) trinity has proved to be immensely useful in delivering the same.

However, any further cash transfer to people will not have the desired impact on growth revival and, therefore, higher MGNREGA spending or cash transfers with the intention of generating demand will not be successful.

As is the case, a lot of such programmes can prove to be permanent in nature and this means that once the government commits to them, it will be difficult to reduce the allocation to these programmes for political compulsions.

It is precisely this reason why governments should effectively avoid spending precious resources on programmes that will have to be funded indefinitely.

The reason why we cannot afford to run such programmes is simple; India is a resource-starved country and, therefore, the key objective at the moment is to revive growth, because only when there is growth, can the government then tax and “redistribute wealth”.

The first stage of progressive redistribution has to be growth. As is the case, in the present circumstances, the government will find its revenue act as a significant constraint and it will have to borrow beyond its budgeted figures.

The answer is absolutely not. This is precisely why the government has to use the money productively to create assets and ensure that it leads to higher growth.

A higher growth is important because governments’ tax collections depend primarily on the extent of growth in income (and consumption) of individuals.

Therefore, spending money today should be focussed on ensuring higher growth to be able to repay the debt.

This is well in line with how a company or how an individual would borrow – they’d borrow to build assets rather than to finance consumption, unless, of course, in an emergency situation.

Another important point is for those who have been cautioning against increasing the deficit.

There have been some who have mentioned risks associated with higher borrowings as far as our debt sustainability is concerned.

The key issue is that if India does not borrow (or increase its debt), then we will witness a low growth scenario, which will anyway increase our debt-to-Gross Domestic Product (GDP) ratio (as the denominator here would be small so the ratio becomes higher).

This will have far more serious consequences on the ability of the government to repay its debt, forcing it to either raise taxes or cut expenditures.

This was pointed out by Niranjan (Café Economics) in his Mint column recently.

The other issue is of inflation, which has been a pet concern by many over the years.

Yes, deficits can result in higher inflation. However, in the present circumstances, in the absence of a strong fiscal response, there could be deflation.

That is, prices may start falling. When prices fall, governments’ tax collection also suffers, which will further create problems for our debt sustainability.

India’s debt levels are moderate, and we have never defaulted on our debt.

In fact, India has largely been fiscally prudent over the last six years. It is such times for which we remain prudent as we can now offer a credible medium-term fiscal path to the world.

The only debate that remains is whether, in the form of a fiscal stimulus, we lean towards a temporary stimulus that is adequate in size to revive growth.