COVID-19 India - The Inevitable Growth fallout & breach in the FRBM Escape Clause

With unprecedented lockdown entering the fifth phase, today, the data released by the Comptroller and Auditor General of India (CAG) highlights that the Indian GDP clocked with the lowest slump since the Global Financial Crisis of 2008 (GFC 2008), witnessing 3.1% YoY growth in Q4 (Jan- Mar) 2020 with eight core sectors witnessing highest ever decline of -38.1% YoY in April. While the majority of the weight for this fallout can be attributed to COVID-19 measures which have brought economic activity to stand still for this decline since 25th March, one should also note that India entered the lockdown with the economy already in a tailspin.

The fiscal deficit in the budget presented in February 2020 by the Finance minister Nirmala Sitaraman already used of special escape clause of the FRBM Act with fiscal deficit pegging at 3.8 percent of GDP for the FY19-20. As per current estimates, it has widened to 4.6 percent of GDP primarily because of the revenue shortfall. With the majority of non-essential goods unavailable in the previous quarter, pessimistic sentiment among investors and consumers, the economic activity remained depressed given the uncertainty (though the nation is gradually heading towards a phased relaxation). This has been one of the reasons for the shortfall in revenue for both the union and the state governments.

The contribution of investments to GDP fell by 2.6 percent in Q4 FY20. This is the sharpest decline since the Global Financial Crisis (GFC 2008) which accounted for a decline in investment to GDP ratio by 3.28 percent in Q4 2009. Private consumption has also witnessed drag with a decline of 2.7 percent YoY as compared to 6.6 percent YoY in Q3 FY20. The share of private consumption to GDP is 60 percent.

Chart 1: Monthly growth of the eight core industries

Source: Press Information Bureau

The Eight Core industries account for 40.27 percent share among items included in IIP. The outlook of the eight core industries has deteriorated witnessing record decline by -38.1 percent YoY since 2011 came into practice. In April it witnessed a decline of 9 percent. Cement and Steel in the construction sector witnessed the sharpest decline of 86 and 83.9 percent respectively which again is highest since the start of the new series. In the coming quarters, the outlook remains gloomy amid uncertainty, this can further deteriorate as PMI stood at 27.5 (below 50 implies contraction in economic activity) as RBI pointed in the recent MPC statement of May 2020.

With the gloomy outlook of growth, rising inflation in food, government witnessing revenue shortfall, and heading towards widening fiscal deficit with continued lockdown, the worst is yet to come. Serious implications will be there for the future course of recovery. The RBIs' interventions so far have been preemptive towards every emerging risk to the economy and remain vigil to intervene if and when required with reserves of 487 billion USD, sufficient to meet a one-year import bill. At the same time, the government has been proactive in incentivizing the businesses and consumers via a tranche of measures and other fiscal interventions especially for the agrarian and informal sectors. State governments and civil bodies have also been active in helping with the rescue measures but given the uncertainty of the situation, it would be ambiguous to propose or preempt for an ideal recovery path. With day by day increase in number COVID positive cases, efforts should remain in ramping up health infrastructure as the prime objective. Further, as the nation heads towards phased relaxation, enhanced surveillance and regulation should be on priority to ensure the financial system stability and policy efforts should aim at protecting the interests of the businesses and the informal sector having maximum exposure to risks.