Feeble response

The fiscal stimulus package — costing approximately Rs.30,000 crore including tax revenue forgone — announced on Sunday complements the slew of monetary measures unveiled by the Reserve Bank of India a day earlier. The size of India’s fiscal package in comparison with those of most other countries is modest: to provide a contra-cyclical stimulus, an additional plan expenditure of just Rs.20,000 crore is proposed to be incurred during the remainder of the year. It is obvious that the relatively feeble response is due to the absence of sufficient fiscal headroom. In October, the government while coming up with an exceptionally large supplementary budget appears to have pre-empted the space for bolder measures. The bulk of the new allocations in that round had gone towards salary hikes for government staff, oil and fertiliser bonds, and other items of subsidy. It is expected that the combined fiscal deficit of the centre and the states will be in the region of 10 per cent of GDP by the end of this year. Besides, in a slowing economy tax revenues are bound to fall. The reduction of 4 per cent in the Cenvat rate for most products will stimulate demand. Export finance for labour intensive industries such as textiles, and gems and jewellery will become cheaper. Export incentives will be increased and insurance for risky markets facilitated through additional allocation of funds. Housing, especially for the low and middle income groups, is set to receive a boost from additional plan expenditure. A designated government-owned infrastructure company will raise Rs.10,000 crore by way of tax-free bonds. In India, as in most countries, monetary authorities have taken the lead in tackling the economic crisis. The RBI’s stimulus package is the latest in a long line of policy initiatives taken since September to encourage lending by banks. The central bank has, however, admitted that business confidence is low and the demand for bank credit slackening despite comfortable liquidity. The reduction in the policy interest rates — the repo and the reverse repo rates — might therefore remain just symbolic without much of impact on the ground. Also, the transmission mechanism from policy rates to interest rates charged by banks will be particularly weak at this time of great financial stress. The real problem is one of credit delivery, not credit availability. It is because of the obvious limitations of a purely monetary approach that the government has announced the fiscal package. The effort still falls far short of what is needed to avert a sharp slowdown.