Will Our Economic Recovery be Led by Better Profits or Wages?

Context: There is a need to go beyond calculations of gross national output to take into account concerns of inclusive growth and climate impact.

Challenges to the recovery of the Indian Economy

• Presence of Amplification Channels: Exogenous shocks, such as the current one, get amplified through the economy because of two key amplification channels and destroys the economy further.

• Financial markets: Corporate Bankruptcies could hit the banks, create unemployment and reduce the economy’s productive capacity, banks themselves become risk-averse too.
• Labour Markets: Low wages and unemployment would hurt demand.

• Issues with the Shock Bbsorbers:

• Cautious government Spending: The Indian government has kept much of its fiscal firepower dry so far, in light of preventing capital destruction.

• Stressed Banking System: Although banks act as a traditional shock absorber, either by massive recapitalization or by regulatory forbearance (easier but less sustainable), but of not much help due to weak fiscal balance.

• Labour: act as a primary shock absorber through structurally low wages.

• However, sustained low income will undermine domestic savings at a time when corporate investments, as well as foreign demand, are weak.

• Corporate Profits: Companies, eventually, learn to live with lower profit margins.

• However, Lower corporate profits will eat into the ability of companies to deleverage.

• Savings: absorbs the risks of negative real interest rates in a system based on financial repression.

• However, negative real interest rates sometimes result in households moving their savings from financial assets to real assets such as gold.

• The dichotomy of interventions: whether the recovery plan should be focused on the supply- or demand-side. An equally important issue is whether it should be led by profits or wages.

•  Higher real wages will lead to rapid growth in demand for industrial products but also put marginal enterprises under immense profit pressure.
•  Lower real wages will have the opposite effect.
• A similar tough choice has to be made in protecting the interests of either savers or borrowers when it comes to financial repression.

Conclusion: Ideally, these choices of interventions should be made by the political system, rather than by economists.