India's (im)possible road ahead

Better implementation of policy measures and reaching out to those left behind are needed next

Start by doing what’s necessary; then do what’s possible; and suddenly you are doing the impossible.” — Saint Francis of Assisi.

The economic crisis caused by Covid-19 has so far triggered three policy moves from the central bank and two from the central government. Various steps have been debated and an­nounced, but much more needs to be implemented and tried. Here we map out what the next steps should be.

But first, a look at the pain points in the economy. India’s balance sheets are not in good shape. The debt-to-equity ratio of corporate India has been rising and is high relative to regional peers. At the country’s banks, the number of loans that have turned sour is already elevated and likely to shoot up further. Shadow banks face the same issues, compounded by a lack of liquidity. Even consumers, whose spending has been fuelled by loans that have been a key driver of growth, are unlikely to take on more debt at a time when jobs are uncertain.

The government’s fiscal situation is tight. Even with the small fiscal stimulus announced so far, public sector borrowings are likely to climb to 13 per cent of GDP, and government debt to 80 per cent of the GDP, both of which are multi-year highs. But with companies and consumers unable to help, it is the government and the Reserve Bank of India (RBI) that will have to spend their way out of the malaise, and ensure that their spending reaches the neediest pockets.

So how does one go about all of this? Amid all the uncertainty that envelops us, the words of Saint Francis of Assisi, the medieval friar and patron saint of ecology, seem particularly insightful. His message from 800 years ago is still relevant today.

One can argue that the “necessary” steps he outlined have started to be taken. The basic minimum seems to have been covered — for instance, free grain and cash transfers to the affected, and partial loan guarantees for small firms. And yet the government’s package has not met expectations. It has focused more on medium-term supply-side reform measures (for example, agricultural marketing and coal mining), than on delivering a short-term de­ma­nd-side boost. The economic package worth 10 per cent of the GDP will need the cash equivalent of just 1 per cent of the GDP, as much of it is made up of central bank liquidity, a reliance on public sector enterprises, and future liabilities.

With an already elevated fiscal deficit, the strategy perhaps is to raise the medium-term growth potential via reforms, which will help fund future liabilities, lower public debt and bring in some much needed feel-good. However, success there will depend on speedy implementation of the reforms where the track record hasn’t been great in the past.

In supporting the economy, the RBI has touched upon each of its functions — rate setting, liquidity infusion and regulation. The benchmark repo rate has been cut by 115bps (effective rates by a larger 180bps), the banking sector is now flush with liquidity (of over Rs 7 trillion), and the loan moratorium has been extended again.

And yet, has India done all that is “possible”? Perhaps more is needed, both in terms of better implementation of the steps already announced, and then some more, to help those sectors that were not sufficiently covered in the previous rounds.

With better design and implementation, more can be gained from policies announced already. The loan guarantees to small businesses must be made simple in process and done quickly. The government should think of it more as a cash transfer than loans, which need enhanced due diligence. If not, an arduous process might defeat the purpose of the scheme.

In its efforts to provide guarantees for funds to non-banking financial companies (NBFCs), the government should look beyond just guaranteeing 90-day funding, which might not be sufficient to kick-start the economy after the lockdown.

While there have been increases in direct cash transfers and the rural employment scheme, getting these benefits to migrant labour may necessitate additional spending and policy innovation to identify who is eligible.

The RBI has done well in providing ample banking sector liquidity, and should not worry if it increases further, as inflation is not a top concern at present. While the scheme for providing liquidity to smaller NBFCs did not meet much success, the RBI should not junk it. Instead, it should try to sweeten the deal, perhaps by providing funds to banks who then provide funds to NBFCs, at an even cheaper rate, so that some of the concerns of banks about credit risks are offset by the low cost of funds.

The efforts to press on with the supply-side reforms could be a doubly powerful move if India can win trade deals as global supply chains are potentially rejigged after the pandemic. But it will have to pick its reforms strategically, perhaps targeting the more pressing ones in the land, power and transportation sectors where momentum for change is already under way.

Next, the authorities should focus on sectors yet to be helped. India’s banks have been used as intermediaries in most of the financial packages an­n­ounced so far. But they are themselves staring at balance sheet issues that cou­ld worsen this year. The government should recapitalise these banks quickly with a large stream of bank recapitalisation bonds. Technically, these are part of the government’s debt, not the Bu­dget deficit, so may not thwart efforts to keep the fiscal deficit contained. Banks should also be allowed to restructure loans to make it easier on both the lenders and borrowers. Lastly, there should be some policy support for sectors like aviation, which could be the long-lasting victim of Covid-19. Perhaps access to some long-term concessional funding could help.

None of this will be easy. But by better implementing the “necessary” and stretching to do what is “possible”, India may just meet its objectives of reviving growth and jobs quickly when the pandemic is behind us.

The author is chief India economist, HSBC Securities and Capital Markets (India) P Ltd