With the US Federal Reserve deciding to announce an emergency rate cut of 50 basis points (0.5 per cent) on 3 March in order to proactively combat the negative economic impact of Covid-19 (Coronavirus), the lesson for India is simple: this is not the time to be squeamish about rate cuts or fiscal deficits.
Both monetary and fiscal policy must act in tandem to provide a stimulus to counter the negative impact of Covid-19.
The Fed rate cut, which targets a range of 1-1.25 percent, has been followed by cuts in Australia and Malaysia. Britain and France may also follow suit.
The Fed rate cut is the first one since 2008 that was announced in-between two scheduled policy meetings.
It indicates a proactiveness that has been sorely missing in India’s Monetary Policy Committee (MPC) ever since it came into existence in 2016.
Consider what could happen if monetary and fiscal policies are not proactive.
First, global trade will weaken, thanks to the disruption of supply chains emanating from China, south-east Asia and Europe. West Asian trade hub like Dubai in UAE is already impacted, which means we can write off any growth propulsion from external trade.
Second, entire sectors – from airlines to tourism to shipping and retail – will be impacted by the demand slowdown that will follow the virus scare that keeps people from travelling, buying and spending.
Spending will be concentrated in areas like medical supplies and devices, and possibly give a boost to non-contact buying through online retailers.
People will avoid malls, railway stations and airports, and school, college and office attendance may thin down a bit. Those who can afford it may use more private transport and avoid crowded public transport.
Third, fiscal math will come under considerable strain in all countries, including India.
If airlines are going to be a bit under the weather, selling Air India will be a tougher task as bidders will be in a buyers’ market.
If general demand for energy is weakening, even Bharat Petroleum will not fetch a huge premium.
If the stock markets start reflecting this fear of a further slowdown instead of the anticipated recovery in 2020-21, the entire privatisation effort may be in jeopardy.
Tax revenues will again go for a toss. In 2020-21, proceeds from privatisation and share sales have been estimated at over Rs 2 lakh crore. We can – and should – kiss goodbye to any possibility of fiscal consolidation if the Covid-19 scare prolongs.
The case for monetary and fiscal loosening has never been stronger. The Reserve Bank of India (RBI) Governor, Shaktikanta Das, made it clear after the last MPC meeting that while inflation remains a threat, he will act outside the ambit of the MPC by reducing the cost of money where he can.
He eased cash reserve ratio (CRR) for incremental lending to specific sectors. He has now told Bloomberg that the RBI is ready to take all steps to combat the economic fallout. This implies that rate cuts may happen sooner than later.
The RBI put out a statement that read:
Globally, financial markets have been experiencing considerable volatility, with the spread of the coronavirus triggering risk-off sentiments and flights to safe haven(s). Spillovers to financial markets in India have largely been contained. Growing hopes of coordinated policy action to mitigate a broader fallout to economic activity have boosted market sentiment today (3 March). The Reserve Bank of India is monitoring global and domestic developments closely and continuously and stands ready to take appropriate actions to ensure orderly functioning of financial markets, maintain market confidence and preserve financial stability.
The message for India policy-makers is simple.
Growth revival is not certain; so rates must be cut and the fiscal deficit target of 3.8 per cent announced in the budget must no longer be considered sacrosanct.
It is time to scrap the MPC and make it a purely recommendatory body. In an accident-prone world, the MPC, with its inflation-focused mandate, is a luxury we cannot afford.
In any event, the MPC has been a disaster from day one, having gone consistently wrong in its policies. It was only with the induction of Shaktikanta Das as RBI Governor in December 2018 that sanity has returned to monetary policy.
At a time when many sectors are under water, and more could go down under, government must stand four-square behind India Inc and the banking system to ensure that the green shoots visible so far are not obliterated by mindless monetary and fiscal obtuseness.
Prime Minister Narendra Modi must give his personal go ahead to the Finance Minister and the RBI Governor to do everything that is needed to kill the deflationary impulses set off by Covid-19 before it becomes a self-fulfilling prophecy.
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