Money & Banking

Only fiscal policy tool can address current economic slowdown: SBI

Our Bureau Mumbai | Updated on September 16, 2019 Published on September 16, 2019

It can solve both consumption and savings problem, says the bank’s Ecowrap report

The current slowdown cannot be tackled by monetary policy in isolation, according to State Bank of India’s research report, Ecowrap. It emphasised that only a counter- cyclical fiscal response might address the core of the current problem.

A fiscal policy tool could solve both consumption and savings problem, the report said. “We believe monetary policy could only act to some extent – experience shows we have been in an era of low interest rates for a decade, but that has done little to boost aggregate demand but increasing household debt (in US it increased from $12.5 trillion in Q1 FY08 to $13.9 trillion in Q2 2019).

“Rather, fiscal policy needs to be a major focus now, especially given what low or negative interest rates mean for the sustainability of deficits,” said Soumya Kanti Ghosh, Group Chief Economic Adviser, SBI.

In fact, while household leverage has jumped two times in the last five years, disposable income has jumped by only 1.5 times, thereby putting pressure on savings. Even though the jump is not as much as in 2007 (when it jumped by 2.3 times over 2005), such a large jump is a matter of concern.

“Given such a large jump in household leverage, the question is will monetary policy retain the effectiveness through large rate-cuts in the current scenario? Probably not. And only a counter cyclical fiscal response might address the core of the current problem,” the report said.

Capital gains tax

To increase savings through fiscal means, the report recommended abolishing capital gains tax to boost financialisation of savings that gained momentum in FY18 but might have lost pace in FY19.

“It is widely argued that a large part of financial savings of the households is used for financing of fiscal deficit. But this only tells one part of the story, as the incremental claims of government borrowings on households have increased by only ₹60,000 crore for the two-year period ended FY17.

“During the same period, the move to incentivise household savings through increasing the ceiling of Section 80C resulted in an incremental ₹1.8-lakh crore of household savings flowing into tax-saving instruments,” reasoned Ghosh.

To increase consumption, the report suggested that the government must address demand weakness by continuing to meaningfully frontload expenditure, say through PM-KISAN and MGNREGA (PM-KISAN portal shows the number of beneficiaries was only 6.89 crore till July 2019), against the target of 14.6 crore due to slow validation in farmer data).

The other option is to continue pursuing capital expenditure (only 32 per cent utilised till date). However, in such a case, the government should clearly state upfront that the additional fiscal spending is specifically for infra spending to boost demand and not for any unproductive purposes.

The report underscored that the headline fiscal deficit should stay at 3.3 per cent, while the additional fiscal impulse for infra spending could be over and above this.

“To negate any impact on bond markets, the RBI could also frontload large rate-cuts in October policy and also start doing open market operations that will keep the yields in check. We also believe that the government should go ahead with the sovereign bond,” the report said.

Among other measures suggested by the report include setting up of a development financial institution, and introducing a performance-linked compensation scheme for banking sector employees as well as operational flexibility to hire from the market.

“The wage agreement has been delayed for a long time and a quick announcement before the festival season would help improve sentiments significantly.

“Address the IBC issues more forcefully. Use credit information for consumers and MSMEs for faster loan disbursement,” said the Ecowrap report.

Published on September 16, 2019
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