A Gentle Push: Financial Express: 10th December 2008

John Maynard Keynes had advocated fiscal stimulus as a way out of a recession. While his theory has been contested, a number of countries have used it to revive their economies. Almost everybody becomes a Keynesian when the chips are down. The logic is infallible. If growth is down because people are not spending, let them do so through policy action.
There is, however, an unexplained conundrum: where has all the money gone? We know that the stock markets are down, which means that people are not investing here and are in a sell-off mood. Mutual funds are trying their best to stop redemption as investors are asking for their money back. Investments in debt instruments have fallen and above all, the rise in bank deposits has been tardy. Sales of automobiles are down and will remain so as the jobs scene looks grim in the country. No amount of cheap lending can revive this market for the time being. Further, while the RBI has tried its best to make people borrow more for housing, it will not help as the industry is on a sticky wicket with new owners on the decline. If people are not saving and are also not spending, then where is the money?
While we appear to be fairly sanguine about growth of 7% this year, the government evidently would like to see a number closer to 8%. Now, how can we view this stimulus package of over Rs 30,000 crore? The excise cuts need to get reflected in lower prices for the consumer. Only then will they work in terms of improving spending. Also their impact would be more at the margin for consumer durable goods, as the demand is inelastic for non-durable goods. While interest rate subvention would improve the profitability of the exporting companies, the impact on exports per se may be limited. They are more likely to be influenced by the depreciating rupee.
IIFCL is to raise bonds for refinancing bank lending to infrastructure, which is a good measure, but would take time before an impact. Refinancing such loans releases capital for banks to lend more on infrastructure or industry. This slew of measures will work with a lag, and the positive influence is more likely in the next fiscal.
The basic problem is that thanks to the financial crisis and the backlash in corporate India, spending has come down with staff downsizing. This is a critical consumer class which will not be in a position to spend more at this point of time. The spending class is more likely to be government staff, when the Pay Commission terms are fully implemented. The only immediate impact would be on the fiscal deficit, where the ratio to GDP could inch towards the 5% mark if all the Budget and extraordinary Budget and off-Budget items are considered.
The second part of the booster being provided by the government is through the monetary policy. The problem one month back was with liquidity and the RBI eased the same by lowering the CRR. Through the repurchase of MSS bonds, liquidity was injected even as it left the system due to the FII withdrawal. But, interest rates have remained high as banks at the micro level had to garner deposits at higher rates. The signal now is to lower rates, which banks can do provided their cost of deposits comes down. The critical part will be to ensure that lower rates do not dissuade savers when deposits are not growing and people are not spending.
The entire package of the government is positive as it is biased towards growth. With inflation moving downwards mainly due to cooling of oil prices and better harvests coupled with a global recession, it is possible for monetary authorities across the globe to lower rates. The only question to be asked is as to when the effects would be seen. Monetary policy is typically slower when it tackles inflation and faster on growth, especially when funds are used for investment. Fiscal policy is more direct but expenditure works faster than tax cuts, which have their own time schedules to work themselves out. Hence, the best answer is a shoulder shrug.