A recession and an uncomfortable inflation are a unique predicament the Reserve Bank of India (RBI) is facing in the wake of the pandemic. The central bank has shouldered much of the stimulus burden upfront although it has had to live with retail inflation rising beyond its comfort to above 6%.
RBI needs help and it has made a case for the government to do its bit despite a lot of fiscal constraints. In its December bulletin, RBI said that both the central and state governments need to continue with measures to boost recovery.
“Going forward, with the severest impact of covid-19 on government finances already realized in Q1, there is scope for Centre and states to continue with the counter-cyclical fiscal support, which is necessary to sustain the momentum of recovery,” it said.
Analysts have pointed out that the actual direct fiscal stimulus has been lower than expectations, despite the debilitating effect of the pandemic. Nevertheless, they have appreciated the government’s schemes, such as emergency credit line guarantee scheme and the production-linked incentive scheme. These have helped companies get much-needed funding and tide over short-term troubles.
Soumya Kanti Ghosh, chief economist, State Bank of India, pointed out in a 16 December note that a large part of government expenditure recently has been off balance sheet. “This gives us hope that the government might be able to spend in Q4 to resurrect growth further,” Ghosh added.
The central bank has highlighted that the multipliers involved in fiscal measures are high and, hence, the boost to growth is higher than monetary measures. “Using these multipliers and based on the fiscal stimulus measures announced so far, it is estimated that government expenditure will add 159 bps and 158 bps to growth in 2020-21 and 2021-22, respectively,” the RBI report said. Recall that RBI expects a milder recession of -7.5% in FY21 than the earlier expected -9.8%.
As such, the prospects of economic recovery have brightened further, RBI has said. High-frequency data so far indicate that the recovery is getting more entrenched, although some headwinds remain.
The absence of a second wave of infection so far in the country is also helping keep sentiments intact.
But even as recovery looks better, RBI is faced with inflation. Here, too, the central bank has looked towards the government. Supply management and prevention of runaway rise in retailer margins are some of the measures RBI has termed essential to bring inflation down.
All these measures fall under the purview of the government.
The demand for more fiscal participation, not just in recovery but also to attract investments, is growing now ahead of the scheduled Union budget in February next year. Deft management by the government will determine how long RBI can keep its monetary policy conducive to growth.
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