All you wanted to know about fiscal stimulus | Business Line–03.10.2017

With the Central Statistics Office’s recent release showing India’s GDP growth in the April-July quarter slumping to 5.7 per cent, a wave of despondency has swept ex-finance ministers, op-ed writers and social media commentators. Some of them have demanded that the Centre immediately unleash a fiscal stimulus to boost the economy.

Many speculate that the Centre is considering a ₹40,000-crore stimulus and an argument is on about how it should splurge this mythical sum. Should it take duty cuts on petrol or build affordable homes? Recapitalise banks or lend cheap to MSMEs?

What is it?

A ‘stimulus’ is an attempt by policymakers to kickstart a sluggish economy through a package of measures. A monetary stimulus will see the central bank expanding money supply or reducing the cost of money (interest rates), to spur consumer spending. A fiscal stimulus entails the Government spending more from its own coffers or slashing tax rates to put more money in the hands of consumers.

Proponents of fiscal stimulus usually cite the legendary John Maynard Keynes to support their arguments. Keynes argued that even small direct interventions by the Government to prop up demand, can have a disproportionately high impact on economic growth due to the multiplier effect. When demand in an economy stays weak for long, businesses stop investing in new projects, unemployment rises, income shrinks and consumer confidence wanes. This prompts consumers to retreat further into their shells. But if the Government can step in with a fiscal stimulus, to deliver a small steroid shot to consumer spending, it revives business confidence, restarts projects, creates jobs and sets off a virtuous cycle of feel-good, demand and growth.

Why is it important?

Stimulus was a bad word in policy circles a decade ago. But it acquired respectability after the US credit crisis of 2008 saw governments across the US, Europe, Japan and China rolling out large fiscal stimulus packages. There’s debate on whether those stimulus packages actually worked. But the Indian one certainly did. India’s fiscal stimulus package in 2008-09 included a blanket 4 percentage point cut in the excise duty rates, ₹20,000 crore in plan spending by the Government, ₹10,000 crore funding for infrastructure finance, export subsidies and a large government order for new buses to replace State public transport fleets. All this, on top of pay revisions for government employees, did prove hugely successful at revving up the economy.

GDP growth revived from 6.7 per cent in FY09 to 8.6 per cent in FY10 and to 8.9 per cent in FY11. But the fiscal deficit for FY09 rose to nearly 8 per cent of GDP, from the projected 2.5 per cent. When the stimulus was rolled back growth promptly slumped.

Today, as the Centre debates whether or not to launch a stimulus, the trade-off is very similar. Yes, a spending spree on affordable housing or tax cuts on petrol, if generous enough, may rev up investments and spending. But it may cost the Centre its hard-won control over the fiscal deficit, pegged at 3.2 per cent this year.

This may attract the ire of rating agencies and put off foreign investors. There’s also the question of whether the economy will take off on its own once the stimulus wears off.

Why should I care?

Tax cuts on fuel or wider income tax slabs will put more money in your pocket. But then, to make its budget numbers add up, the Government may recoup tax revenues through other means; ultimately pinching your pocket.

The bottomline

For taxpayers, it’s a ‘heads I win, tails you lose’ situation. Unless of course, the stimulus really boosts the economy.

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(This article was published on October 2, 2017)

via All you wanted to know about fiscal stimulus | Business Line

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