In a recent interview with PTI, former Reserve Bank of India (RBI) governor Duvvuri Subbarao said the central bank should consider printing money to finance the government as its last resort.

"It [RBI] can [print money] but, it should avoid doing so unless there is absolutely no alternative. For sure, there are times when monetisation — despite its costs — becomes inevitable such as when the government cannot finance its deficit at reasonable rates. We are nowhere near such a scenario," said Subbarao.

On the other hand, economist and Nobel laureate Abhijeet Vinayak Banerjee recently suggested to print money liberally and give it to those in need by direct transfer and buy enough vaccines. The PHD Chamber of Commerce and Industry has also suggested that the government issue pandemic or COVID bonds to raise funds for stimulus growth.

While the RBI has lowered the country's growth projection for the current fiscal year to 9.5%, the World Bank in a March 2021 report, estimated India's 2020 GDP contraction at 8.5%. The National Statistical Office in May 2021 updated this figure to a contraction of 7.3%. For 2021-22, the deficit has been put at 6.8% of the GDP.

To understand what the government needs to do to finance its fiscal deficit, FactChecker spoke to Sabyasachi Kar, professor at Institute of Economic Growth and former RBI chair at National Institute of Public Finance and Policy and DK Joshi, chief economist at CRISIL, an analytics company.

All government expenditures are financed in one of three ways: 1) Tax Revenue 2) Borrowing 3) Printing money.

According to Kar, India's central bank is effectively printing money indirectly. "Effectively the RBI is already printing money. The point is that the RBI has committed itself to buying a certain amount of government securities from the secondary market. Instead of directly buying securities from the government, the RBI has committed to buying it from the market, so the government can effectively sell more securities and fund its expenditure," said Kar.

To further explain how this is similar to printing money, Kar added, "This is similar to quantitative easing, where the central bank directly injects money in the economy by buying certain assets from the market. They pay for these assets by printing money. So, money is still getting into the economy. Apart from ensuring ample liquidity, the RBI is also trying to keep interest rates relatively low so that the interest payment on government borrowing does not become a burden. As a by-product of that, it is funding government expenditure by printing money."

According to an International Monetary Fund (IMF) report later published in the Centre for Monitoring Indian Economy (CMIE) India's debt to GDP ratio preceding the pandemic was 74% which fell to 90 % by the end of 2020.

Dr Joshi from CRISIL agreed with the former RBI governor's viewpoint about monetisation being the last option. "There is no free lunch and monetisation certainly comes with a cost. It carries the risk of further stoking inflation in an environment where inflation is already under pressure due to rising metal and metal prices. I agree with Dr Subbarao that monetisation should be considered as a last and certainly as a one-off option when other options have been exhausted. Government should speed up its divestment/asset monetisation program and will need to resort to higher borrowings this year to generate resources to support the economy," said Joshi.

Changes to recover from economic slump

Immediate Steps: First off, both experts stressed that the top priority of the government must be to control the COVID-19 pandemic. They added that there is a need to support the economy in the short run (amidst the pandemic) as well as to accelerate structural reforms to raise the medium-term growth potential of the economy.

"During the pandemic, the most important policy to sustain growth is to control the pandemic. It's the only way we can ensure that growth doesn't become negative or very low. There will be outbreaks from time to time. We need to get better at managing them," said Kar.

According to CRISIL's chief economist, in the near term the government spending will need to be raised in the following areas:

1. Fiscal policy will need to be deployed to help urban poor, small and medium enterprises and contact-based services which have been severely hit by COVID-19.

2. Allocation to MNREGA will need to be increased due to impact on the hinterland

2. We need additional funds to ramp up rural health infrastructure and vaccination

"Also, during this pandemic, instead of going for more reforms, the government should consolidate on the reforms already initiated. It has already initiated some market-friendly reforms. But we have a misunderstanding of reforms in India. We think that enacting a certain law is reform. But the actual reform is putting in place the institutional capabilities that can implement the law and that takes a lot of time," explained Kar.

Using Goods and Services Tax (GST) as an example, he said in the last few years the problems with GST have come to the fore and so a reform can only become successful if its weaknesses are corrected over time.

"As far as the current reforms are concerned, the government's focus should be to figure out and put in place institutional mechanisms that inculcate the trust of various stakeholders who are unsure if these reforms will help them. Ultimately, the success of reforms will depend on how much the stakeholders accept it," added Kar.

Long-term structural reforms: Investments, especially in infrastructure, not only help create demand in the short run, but also raise the ability of the economy to grow fast over the medium run. "Since the private sector will be unwilling to ramp up investments in the current uncertain environment, the government will have to do the heavy lifting," said Joshi.

He suggested that the government streamline the process of key reforms initiated in the last 2-3 years such as GST (by bringing in petroleum and gas in its fold) and insolvency and bankruptcy code so that benefits accrue over the medium run.

Union Finance Minister Nirmala Sitharaman, while presenting the Union Budget 2021-22 on February 1, 2021, announced an outlay of Rs 1.97 lakh crores for Production-Linked Incentive (PLI) schemes for 13 sectors. She said the objective of this scheme is to generate employment opportunities for youths and to boost domestic manufacturing in sunrise and strategic sectors. Of the 13 PLI schemes, nine have been approved by the government. Major schemes in sectors such as heavy industries, textiles and steel are yet to be approved.

Joshi recommended that the government fast-track these schemes. "Currently, a large part of the PLI scheme is still under various stages of approval at the Cabinet and ministry levels. Traction was witnessed in sectors such as Mobile & Electronics, Pharma & Medical devices which were devised earlier but others such as auto and components are lagging."

Trust and safety nets

In the post-pandemic period, market-based reforms will be important for growth. But there needs to be more stress on safeguards for smaller participants in the market, for both buyers and sellers, said the professor from the Institute of Economic Growth.

"The idea behind market reforms is that competition is good for the economy. But the market in the 1990s – when reforms were initiated — and the markets now, are very different. Now we see more oligopolistic markets. We have big and hi-tech firms who are both buyers and sellers in different markets," said Kar.

Another aspect is the distrust in certain sections of society towards markets. Reforms cannot work unless everyone trusts them and trust can be gained through regulations. "We need reforms plus safeguards so that small buyers and sellers who have to deal with the market today are not completely at the mercy of the big players. We need to bring in more stringent regulations, which are as important as reforms," he said.

According to the Centre for Monitoring Indian Economy, India's unemployment rate for May 2021 stands at 11.9%. To tackle this while introducing reforms will construct safety nets for the unemployed.

"As we move towards structural changes, we will want to make our economy more competitive. During this process we will see a lot of unemployment from time to time as that is the nature of free markets. So, we need to build safety nets to support the poor and the unemployed till they can find gainful employment and income again. While the country is benefiting from structural reforms and higher incomes, we must make sure we don't leave anyone behind," concluded Kar.

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