Brace Up For Recession

Context: The stark differences in economic impacts of lockdown last year (2020) and this year (2021) necessitates the government to prepare for a worst-case scenario.

Reading India’s tragic spiral into Covid 2.0

• Short-lived optimism: In February 2021, there was optimism in economy that businesses are getting back to normalcy, but only to see lockdowns being re-imposed a month ahead.
• Economic impacts of lockdowns 2.0:
  • In April 2021, car sales dropped sharply; CRISIL’s data says retail sales of tractors dropped by 40-45% in April compared to a month earlier.
  • According to the Centre for Monitoring Indian Economy (CMIE), 73 lakh people lost their livelihood.
  • A drop in CMIE’s consumer sentiments index as less than five out of every 100 people surveyed expected their incomes to rise in 2021.

Comparing the lockdown in 2020 with lockdown 2.0: The situation in lockdown 2.0 is dire due to the following reasons:

• Opening up of big economies: While during the last year, global recession caused a drop in raw materials prices, this year, big economies are instead in a path of recovery, thanks to the achievement of their vaccination targets.
  • This recovery in the developed world is already causing a big rise in the prices of fuel and other industrial inputs.
  • Thus if India’s 2^nd wave continues for longer, there will be a sharp fall in demand, sales will continue to fall, and input costs will rise, leading to a shrinkage in corporate profits.
• Fluctuation in the stock market: The stock market boomed last year due to increased profits based on drop in real wages and low-interest rates.
  • However, if profits contract this year, there is a danger that the markets will drop in response.
  • Moreover, the fall in the stock market impacts consumer sentiments because-
    • The top 1% of households in India drive a large part of additional consumption demand.
    • When markets go up, it generates a ‘wealth effect amongst such investors (they feel more confident about buying cars etc.), and the reverse is true if markets fall.
  • Thus, if private profits shrink, corporate sector jobs will also take a hit, leading to a fall in income -> demand will shrink further, forcing companies to cut prices.
  • It is a vicious cycle where input prices, determined by global growth, will rise, while the prices of finished products will fall.
• The rural spread: While earlier, the spread was mostly urban, this time, it is spreading to rural areas, and our healthcare systems are unequipped to handle it.
  • Along with the unimaginable human tragedy, this could also affect the Kharif sowing season.
  • This could reduce farm output and disrupt food supplies causing food prices to rise, creating a double whammy - high food inflation in the middle of low income.

Conclusion: It is time to move ahead of overoptimism, and the government shall prepare for a worst-case scenario this time.