Stimulus 3.0: India’s Attempt to Salvage its Economy

The Covid-19 pandemic has hit the Indian economy with irrecoverable challenges. It caused a month-long nationwide lock down which led to disruptions in the delicate domestic and international supply chains in India and caused a massive reverse migration after the initial months of Financial year 2020-21. In order to compete with rising problems and negative impacts of the pandemic, the Ministry of Finance has introduced a series of ‘Fiscal Stimulus’ packages from June, 2020.

In its third instalment, Nirmala Sitharaman covers major economic areas such as employment generation, infrastructure, housing finance, subsidies for agriculture. Main topics that will cause a shift in markets are the following points:

  1. Funds towards the national rural employment scheme i.e. NREGA was raised by ₹100 billion (0.1% of GDP), which will provide the much-required boost to employment generation in informal sectors. Allocation already stood at a record ₹1.1trillion (₹610 allocated during the 2020-21 budget and ₹400 billion addition in May). After noticing a high unemployment rate recurring over the period of last 6 months (ranging from 6% to 27%), the Finance Minister’s main aim was at minimizing it in the coming quarters. The new ‘Employment Generation’ scheme now states that the contributions to retirement fund (EPF) will be subsidized for companies which are eligible up to 2 years. Companies become eligible for this scheme if they re-hire fired or hire new employees up to a certain number till June 2021.
  2. In order to provide funds to stressed sectors, the current Emergency Credit Line Guarantee Scheme was extended to March, 2021. These sectors were identified by the RBI appointed ‘Kamath Committee’. (KV Kamath Diwakar Gupta, TN Manoharan, Ashvin Parekh and Sunil Mehta) This committee decided the spending of ₹1.5 trillion amongst the 26 different sectors. This emergency credit will be provided to the sectors over a period of 5 years with a repayment plan which includes 1 year of moratorium.
  3. In order to truly emphasize on creating an Atmanirbhar Bharat (Self-reliant India), the Finance Ministry has introduced a ‘Production Linked Scheme’(PLI), which increases incentives to increase investments in certain sectors in the coming 5 years. The sectors which will be benefitting from this scheme range from pharmaceutical companies, electronic and automobile manufacturing, telecommunications sector till textiles. These sectors will be receiving up to ₹ 1.45 trillion over the next 5 years.

Out of the schemes discussed, the PLI scheme is the one which will cause a major shift in the market. Pulling together this ₹ 1.5 trillion and ₹ 513 billion announced earlier, cumulative outlay towards this scheme is near ₹ 2.0 trillion.

This scheme is expected to revive domestic industries and bring in foreign investment much needed for an Atmanirbhar Bharat. With an ever-growing domestic demand and labor supply, the dream of a self-sufficient is not too far away if the government continues supporting its industries and creates strong Free Trade Agreements with other major developed and developing economies.

The following is the distribution of the Production Linked Scheme (PLI) for the next 5 years:

Coming on to Fiscal implications of the third round of Fiscal stimulus amounts to almost ₹ 2.65 trillion, which is around 1.4% of GDP. The impact of this package will not be a longterm negative on the government’s current fiscal budget.

Cumulative packages till date amount to ~2% of GDP, additional expenditure from this year’s budget which when put together with a likely 6% undershoot in total receipts, is bound to raise financing needs on top of the revised ₹ 12 trillion gross borrowings (leaving aside INR 1.1trn to be borrowed on behalf of states).

Total stimulus given till now is equivalent to nearly 2% of GDP, the additional expenditure over the said budget will cost the government 6% of total receipts. It will be increasing the financing needs of the government over the ₹ 12 trillion gross borrowings.

A Word On Inflation Levels:

Over the period of last 10 months, inflation levels have been consistently over 6%. The October Inflation (Consumer Price Index) was at 7.6%. One of the major factors which lead the inflation higher than earlier was the increases in food prices (vegetables and protein products). On the other hand, non-food sectors faced restrictions related to transportation and increasing cost of services.

Figure 1: Inflation-September 2019-2020 Source: RBI data base

The inflation target of 4% set by the RBI is difficult to achieve in the current scenario. With increasing Covid-19 cases, counter effects of reverse migration in March (increasing labor cost) and anomalies in the supply chain system will make it difficult to reach the required inflation targets until the 3rd Quarter of 2021.

Looking at the current scenario, we expect that a further repo rate cut or increase from the 4.00% mark will not be announced in the Monetary Policy Committee meeting in December 2020.

An unchanged interest rate of 4.00% will allow consistent lending to take place in the Indian economy; allowing for the effect of time lag in executing policies diminish over the next quarter. This would let several sectors cope up with increasing domestic demand and raise investments (domestic and foreign) to expand their production levels.

In pursuit of an Atmanirbhar Bharat, monetary and fiscal policies must work hand in hand over the next 5 years. These policies will help sectors move past from the challenges put forth by the Covid-19 pandemic and let Indian economy bear fruit of the several Fiscal stimulus packages announced till date. A lower interest rate, sustained inflation levels between 5-7% (for a short term) and a flexible tax regime will help India overcome from the current pandemic and emerge as a leader in World Trade.

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