The Covid-19 pandemic has led to an unprecedented public health emergency with countries, including India, under prolonged lockdowns, which will result in loss of economic growth and job losses.
The economic fallout of the lockdown:
- The lockdown: It practically immobilizes the workforce and thus reduces production to zero in 80-90% of the economy.
- The lockdown in China was an unprecedented disruption of production-inputs, the supply of intermediate goods, given China’s role in so many critical global supply chains and its monopolization of so many products.
- The demand shock for contact services, which involve dense collections of people such as air, rail, and bus transport, tourism, restaurants, and hotels, entertainment and malls.
- The partial economic decoupling and high tech decoupling set in motion by the tariff war:
- The decoupling will be between free, open democracies and those who merely pay lip service to these principles of acceptable behaviour.
- More pressure now on global supply chains to withdraw from China: there will be an accelerated diversification of global supply chains from China, particularly in industries that China had monopolized through subsidies, non-tariff barriers, and mercantilist practices.
- Deglobalization: Deglobalization started after the global financial crisis and is clearly visible in the declining world trade-to-GDP ratio, as well as in reduced capital flows, particularly to emerging market economies. These trends will intensify and expand to include greater restrictions on low tech migrant workers.
The challenges before India
- Low GDP growth: Forecasters and rating agencies such as Moody’s have revised downward their growth estimate for India to 2.5% for 2020.
- Effective implementation of welfare measures: As states are responsible for both health and welfare, effectiveness of health and social welfare measures depends on the states.
- Fiscal stimulus after lockdown: Once the lockdown is over, fiscal measures must be targeted at industries and sectors that are most severely affected by the epidemic.
- The FRBM (Fiscal Responsibility and Budget Management Act) should be suspended or reformed to take explicit account of such crises. Ignoring fiscal deficits during the crisis to institute temporary expenditure does not mean irresponsible commitment to medium-term schemes.
- Making a calendar for reforms: Union and state governments (example, GST Council) must prepare a comprehensive calendar of reforms to be implemented during H2 (October-March) of FY21 and H1 (April-September) of FY22.
- Reforms needed for
- goods and services tax (GST) and the Direct Tax Code
- reform of external sector and exim (export import) policy
- agriculture, skilling including apprenticeship
- regulatory reforms for promoting education in India
- land and labour flexibility for coastal/special export zones and import substitution zones, electricity distribution and pricing for industry, and manufacturing subsidies for industries monopolized by dictatorships
- Stimulus Vs. direct cash transfers: Tax reforms (Direct Tax Code, GST) are far more important than expenditure reforms.
- Tax reduction should be done to provide short-term stimulus
- Ensuring long-term fiscal sustainability through improved voluntary compliance and higher buoyancy.
- Direct cash transfers will be necessary but it will be sustainable if and only if combined with a reduction of leakages (inefficiency and corruption) in major subsidies such as fertilizer and food.
- Negative income tax (NIT) system: To preserve direct cash incentives in our system with evasion and corruption, we need to mesh this into a negative income tax (NIT) system. The time to consider it will, however, be in 2021-22, after the economy is on road to recovery.
In economics, a negative income tax (NIT) is a welfare system within an income tax where people earning below a certain amount receive supplemental pay from the government instead of paying taxes to the government. Such a system has been discussed by economists but never fully implemented.