As India’s economy limps along, it seems policymakers are yet to make up their mind on whether the economic benefits of deficit monetization outweigh the risks. So far, no move has been made to amend curbs placed on extra spending by India’s Fiscal Responsibility and Budget Management Act, though hints of greater expenditure to come later suggest that this law’s escape clause would be used to the hilt. Meanwhile, voices have arisen warning against the central bank directly picking up government debt to finance another round of stimulus. The first bout was weak to begin with, and if fiscal hawks have their way, we cannot expect a booster shot either. Now Viral Acharya, a former deputy governor of the Reserve Bank of India and fierce advocate of RBI autonomy, has described monetizing deficits as a “deeply flawed" approach and reminded us of the inflation outbreaks and external sector instability brought on by doing so in the past. Since India swore off deficit monetization back in 1997, there are many who worry about “regressing" to the old days if we resort to it.
They need not. The first thing we should accept is that the covid crisis is unlike any other. Haunted by uncertainty, India’s economy is set to contract severely this year, possibly even at a double-digit rate. Demand across sectors has suffered something of a paralytic jolt, unemployment is way too high, and the overall private inclination to spend or invest has visibly shrunk. Add to this a failure to arrest coronavirus infections, and the country may be staring not only at an economic but also a social upheaval. Importantly, while inflation is very hard to forecast, and may have risen a bit lately, the danger of price spikes is arguably too low for it to deter public spending or cash give-aways at this point. On the external front, oil prices are benign. Yes, our exports are weak, but the risk of a run on the rupee is not likely to pose a worry so long as local prices behave well and global investors focus on a revival of domestic growth. As for the bad experience at the previous decade’s turn, that loss of price and currency stability should not be blamed on fiscal expansion per se, but on its unbridled continuation well beyond what was needed after a financial crisis that affected the West far more severely than us. It should have been pulled back a year or two earlier than it was.
This time, India’s stimulus need is far greater than it was 10 years ago; and fully appropriate, too. Indeed, such times are exactly what the idea was originally meant for, and it would be a sad irony if the past record of its over-use held us back. Whether the rupee’s value is at threat could be tracked closely by RBI, which has sterilization tools at its disposal, but until such a point, we need to loosen our restraints on money creation in aid of the economy. In the West, fiscal and monetary levers are being re-assessed, as real interest rates hit zero, asset bubbles get inflated and inequality worsens. In the global hunt for new ways to rescue a crisis-hit economy, rather radical ideas are being discussed: at the fiscal extreme, some want an all-out splurge of newly-printed money; at the deep monetary end, some would have all money digitized so that negative interest rates can be enforced. But, in India, thankfully, a moderate mix of fiscal and monetary action could still do plenty to support growth.