Raghuram Rajan says Covid-19 greatest emergency for Indian economy, Urjit Patel advises caution

Ex-RBI governors write on multiple aspects of the economic impact of coronavirus, and recommend some steps for Modi govt & RBI to take.

Former RBI governors Urjit Patel (left) and Raghuram Rajan | Image: ThePrint Team

New Delhi: Two former Reserve Bank of India governors, Urjit Patel and Raghuram Rajan, have offered words of praise, criticism and caution for the Indian government and the Reserve Bank of India in handling the Covid-19 crisis and its impact on the economy.

While Rajan said the current economic situation is perhaps the “greatest emergency” India is facing, Patel stressed the need for India to maintain macroeconomic stability.

India can’t match steps taken by developed economies: Patel

In a column in The Indian Express Monday, Patel, who was the RBI governor until December 2018, said the “policy roll-out over the past couple of weeks has, for the most part, been sensible”.

Patel cautioned that India will have to brace for likely multiple impacts that could occur over a year, and stressed the need for maintaining macroeconomic stability.

“The temporal uncertainty around the persistence of the virus is the most important reason for keeping some policy gun powder dry, even as we meet the challenge on all fronts,” he said.

Patel cautioned that if the fiscal and monetary responses to Covid-19 are overdone, the “likelihood of non-trivial consequences for macroeconomic stability increases. “It is a fine line between aggressively proactive and being perceived as reckless.”

He pointed out that India cannot match the steps taken by developed economies to counter the adverse demand shock, and that the countries that can issue reserve currencies also have much more elbow room.

“EMEs, like India, obviously don’t have this luxury. For India to replicate what developed countries have done is not possible as willy-nilly we have to confront the reality of limited financial space,” he wrote, adding India’s correctly measured national fiscal deficit is perpetually high, and will get larger even without an increase in outlays.

“First, revenues will decline sharply; and, secondly, state governments who are the first responders of the health emergency will be hard pressed,” he said.

Patel was critical of some of the announcements by the government and the RBI over the last one year that relaxed norms allowing easy entry and exit of the so-called ‘hot money’ or short-term capital inflows.

“It is an expedient policy in the hope that it will lower borrowing costs for the central government; this may only help in the short run, and in the current environment even that is not apparent,” he said.

The former RBI head questioned the government’s action of erecting trade barriers to imports through higher customs duties and posing hurdles to outward remittances on one hand, to the government’s encouragement of foreign inflows into Indian markets on the other.

“The strategy, leave aside the vision, behind this bi-polar economic policy is not apparent.”

He also stressed the need to be more vigilant when it comes to an increase in non-performing assets, especially when NPAs in India are already at high levels of 9 per cent. Patel was critical of the regulatory forbearances announced pre-Covid-19 — RBI had allowed MSME and real estate accounts some leeway from being classified as stressed accounts, thereby helping banks in delaying their classification of such accounts as NPAs.

“Recent developments pertaining to a private bank notwithstanding, the forbearances pre-Covid together with widely reported delays in resolution and the ad-hoc dilutions in regulations have not helped; neither has poor disclosure — late last year ten banks disclosed that for the previous financial year their NPAs were Rupees 26,500 crores higher than previously reported. All this contributed to an increase in the sector’s risk premium,” he said.

Patel stressed that India needs to expend more resources on preventing Covid-19’s spread, pointing out that “massive prevalence testing now could, but not guaranteed to, help avoid another national lockdown or reduce the need for multiple localised lockdowns later”.

Involve experts and opposition: Rajan

Patel’s predecessor Rajan, who served as RBI governor between 2013 and 2016, posted on his LinkedIn page on 5 April his suggestions for the Indian government to tackle Covid-19, also stating that India needs to step up testing.

“Economically speaking, India is faced today with perhaps its greatest emergency since independence,” Rajan wrote as he stressed the need for the Modi government to use people with subject knowledge expertise to help manage its response, and not just drive everything out of the Prime Minister’s Office.

“There is much to do. The government should call on people with proven expertise and capabilities, of whom there are so many in India, to help it manage its response. It may even want to reach across the political aisle to draw in members of the opposition who have had experience in previous times of great stress like the global financial crisis,” Rajan advised.

“If, however, the government insists on driving everything from the PMO, with the same overworked people, it will do too little, too late,” he said.

Rajan pointed out that India’s economic outlook even before the coronavirus had been weakening steadily, and the socio-political environment was deteriorating.

“It is said that India reforms only in crisis. Hopefully, this otherwise unmitigated tragedy will help us see how weakened we have become as a society, and will focus our politics on the critical economic and healthcare reforms we sorely need,” he wrote.

Rajan stressed on the need for a planned phase-wise return from the lockdown, and said the Centre and the states will have to come together and figure out a “combination of public and NGO provision (of food, healthcare, and sometimes shelter), private participation (voluntary moratoria on debt payments and a community-enforced ban on evictions during the next few months), and direct benefit transfers that will allow needy households to see through the next few months”.

He also pointed out that direct benefit transfers may not reach everyone, and may be insufficient to meet the requirements of the ones they reach.

He also cautioned that India cannot afford a rating downgrade by a sharp increase in the fiscal deficit, but said spending for the poor is a humane action that needs to be taken.

“A ratings downgrade coupled with a loss of investor confidence could lead to a plummeting exchange rate and a dramatic increase in long term interest rates in this environment, and substantial losses for our financial institutions,” he said, advocating cutting back or delaying less important expenditures, while refocusing on immediate needs.