Time for India to Get Real

CONTEXT: When India emerges from COVID, it will need not only fiscal stimulus but also the removal of various bottlenecks in jobs and output creation.

Analyzing the role of money creation in an economy

• Should spur domestic demand: Money creation through fiscal and monetary policies should, indeed, spur domestic demand. 
• Generally, the more the money, the more the economic activity across consumption, production, savings, investments and trading in assets. 
• E.g. India’s M3 (money supply) grew by 17.9% a year (from FY 2005-06 to FY 2012-13,) and its nominal GDP and consumption increased by over 15% a year. 
• From FY 2013-14 to FY 2019-20, M3 growth slowed down to 10.5%, and nominal GDP growth to 10.8%. 
• Can lead to inflation and financial instability: If the domestic output is not matched with the domestic demand, it can neutralize the role of money creation in generating demand.
• For, E.g. while India’s money supply grew by 15% a year and nominal private consumption by 25% (over 25 years), net imports increased by 23% a year.
• Between FY 2005-06 and FY 2012-13, India’s net imports averaged 4.8% of GDP, while its rural consumer price index (CPI) inflation averaged 9.5%. 
• Money created have not been productive: Credit growth, fiscal spending and net foreign currency inflows and failed to provide efficient solutions.
• Banking credit has ended up as non-Performing Assets (NPAs)
• Unproductive sectors like telecom, real estate, airline and Micro, Small and Medium Enterprises continue to soak up bank credit without any productivity.
• Inadequacy of Fiscal Stimulus: Fiscal deficits have primarily funded revenue expenditure, rather than productive investments. 
• Transient and Opportunistic nature of foreign currency inflows: The productivity benefits from such flows are unclear. 

Way Forward:

• Expand output and jobs: support higher domestic and external demand, without resorting to import tariffs that crimp our domestic competitiveness, or force austerity upon us.

• Remove the bottlenecks for jobs and output:

• Address the overhang NPAs with a decisive one-time solution such as a Bad Bank.
• Need banking, governance and market reforms to make the system capable of creating quality money.
• Chronic stresses in real estate, power, telecom, airline and shipping, and MSMEs need to be addressed. 
• Pursue land, labour, legal and policy reforms: so as to provide space for domestic entrepreneurs and global supply chains for creating jobs and output.

• Invest more in education, healthcare and nutrition: This would be the best way to lead our children to jobs and output, in a very uncertain future. 

• Should spur domestic demand: Money creation through fiscal and monetary policies should, indeed, spur domestic demand.