Fiscal Costs of Managing Economic Consequences of COVID-19 Lockdown

COVID-19 Lockdown and Phase-Out

Fiscal and Monetary Response for Managing Economic Consequences

Covid-19, the riskiest virus humanity has seen over a long period of time has made humans highly vulnerable. The only solution yet understood is to keep humans away from the contact with other humans, at the least from the strangers. It is hoped that the virus carriers will show up in the process. 

Nationwide Lockdown effected in India on 25^th March seeks to implement this segregation strategy. All Indian families have been confined to their homes. Those who don’t have homes or have lost homes have taken shelter somewhere.

Review of this three weeks lockdown is due on 14^th April.

FISCAL RESPONSE FOR SUFFERERS OF ECONOMIC LOCKDOWN

A lakh crore fiscal package needed for workers

Human beings are also workers who produce the goods and services. The goods and services produced and sold make up the gross value added or the GDP. GDP equals almost all the income earned. Lockdown effected to save human lives has also locked down the economy. No incomes are generated in a completely locked down economy. As a substantial part of the economy has got shut down, a very large number of workers have lost their wage income.

We don’t have good labour statistics in India. We have no idea about employment status, wages and savings of individual workers or even at aggregate levels.

Census 2011 counted a little over 36 crore main workers and about 12 crore marginal workers in India. Employment surveys place our current number of employed workers at about 42 crores. We have to work with these broad numbers to estimate the workers suffering from the lockdown.

About 10-12 crore workers are estimated to be cultivators or otherwise engaged in agricultural and allied activities. This means about 30 crore workers in India derive their livelihood/income from work done in industries and services other than cultivation. Not more than 5 crores of these 30 crore non-farm workers have secured salaried jobs which only governments, public sector agencies and the organised private sector industry and service establishments offer.

About 25 crore workers have unsecured non-farm jobs. Who are these 25 odd crore workers and where are they employed?

There are about 8 crore agriculture labourers. Most of these also work part time on non-farm jobs such as construction. There are about 3 crore workers who are primarily engaged in construction and related work- plumbing, electrical and other work included. The rest work in manufacturing- most commonly in own account, tiny and small industries- and in myriad kinds of services- taxi/auto-rikshaw drivers, assistants in retail stores, cooking and delivering food and so on.

These 25 crore workers are the worst affected by the lockdown. No firm estimates are available of the workers who have lost their jobs. A rough estimate can, however, be made on the basis of two indirect data-points. First, the census 2011 provides industry and services classification of main workers. Second, we have good idea about lockdown status of industries and services establishment.

A computation based on these details suggest that at least 10 crore workers seem to have lost their jobs in the lockdown. Let us hope this is only temporarily.

If we assume the average wages of such workers to be about Rs. 10000 per month, the three weeks of economic lockdown would have cost the 10 crore workers about Rs. 75,000 crores of wage income. The monthly loss will not be less than Rs. 1 lakh crore.

Most of these workers live from day to day. They hardly have any savings or other assets to fall back on. Pictures of the swarms of migrant workers trying desperately to get out of the cities when the lockdown was imposed give a very good idea of the loss of jobs and the kind of assets they have. Surely, they would also not have any balance in their bank accounts to survive on or worry about. These workers need financial help desperately.

The advisories issued to their employers are of little use. Most of these workers might not have any employer. Many others might work for some contractor or middlemen, who are likely to have abandoned them being possibly quite resourceless themselves.

The physical lockdown is intended to protect these workers from the deadly COVID-19 infection. The economic lockdown has, however, exposed them to the risk of disease and malnutrition from wage loss.

Their misery is the result of the public policy. The solution to their misery should also come from the public resources.

There is an immediate need to provide fiscal support to these workers. While these workers might have lost about Rs. 10000 of wage income per month, the government may provide them at least about Rs. 2000 per worker to meet their most urgent needs. This support may be provided for about three months. This will cost the government only about Rs. 20000 crore a month or about Rs. 60000 crore for three months.

This will be a small fiscal cost but will save 10 crore workers from penury, disease and deprivation.

The fiscal relief package (of Rs. 1.7 lakh crore but actually a lot less) announced on 26^th March does not address the loss being suffered by these workers. A new fiscal support package of about a Rs. 60000 crores for these workers suffering on account of economic lockdown is most urgently need.

Fiscal package for real economy/businesses

Different constituents of the real economy have been impacted differently.

Farm businesses, essential goods and essential services exempted from the economic lockdown have suffered less disruption and economic loss. Additionally, e-commerce, except those which could not transition to work from home, and pharmaceutical businesses have also not suffered much. These businesses are expected to bounce back fully after the lockdown is lifted. Some might even do much better than before after the lockdown is lifted.

Mining, construction, manufacturing, warehousing, wholesale and retail trade, non-goods transport, commercial real estate and many other industries and services are almost in complete shutdown mode presently. Many others- goods transport, power sector, banking and other financial services etc. have suffered partial shutdown.

A back of the envelope calculation taking into account contribution of different sectors of the economy and the extent of lockdown these are under indicate that about 60%-70% of the goods and services produced in the country or the GDP is getting lost. Roughly 8%-9% of GDP gets produced in a month on an average. Our annual GDP is approximately Rs. 210 lakh crores. One month of total loss of GDP amounts to Rs. 17.50 lakh crore. A 21 days lockdown with 2/3^rd of production lost means that India would lose about 4% of GDP during the period of lockdown.

This amounts to loss of about Rs. 8 lakh crores.

GDP income is shared between government (taxes), businesses (profits) and workers (wages). Everyone suffers when GDP is lost. A loss of Rs. 8 lakh crores for the period of 21 days is a massive loss. This is the cost of the lockdown solution for containing the risk of COVID-19 spread. This is too heavy a cost to suffer. A loss of about 2-3 lakh crore a week is unsustainable. We will be economically ruined if complete lock down continues for even 10 weeks.

We need to find ways to minimise the risk of COVID-19 spread at lesser cost. This has to be kept in mind when we plan opening of our economy post April 14.

The risk of COVID-19 spread is not same for every business. Some businesses which require humans to come in close proximity have higher risk. This risk becomes greater if the humans come in closer proximity of strangers. Passengers sitting close to each other in buses and aircraft or audience sitting in cinema halls or sports stadia perhaps are under the biggest risk of contracting COVID-19 virus. Workers working in mining, construction, manufacturing etc. perhaps have much lesser risk of getting infected. Shoppers in retail, customers transacting business in a bank etc. are perhaps facing middle level of risk. Digital economy businesses with workers working from home or even from office cubicles but not coming into contact with other workers are perhaps subject to the least risk.

Covid-19 incidence burden is the other differentiator.  

There are COVID-19 hotspots. Delhi has 7 of these presently. There might be around 70-80 in the country. These are the places where the corona virus infected people have been identified and there is risk of local spread.

India has over 6 lakh villages. 99.9% of these villages have no reported incidence of corona affected persons. A vast majority of towns have also not reported any corona virus incidence so far.

We can manage containment of the risk of COVID-19 spread by taking certain preventive measures as well. Social distancing, arranging workers desks at a safe distance, providing separators between passengers’ seating, wearing a mask, screening out and quarantining people with any symptom, sanitising the places whenever there is change of occupiers etc. These measures which can reduce the risk of spread of COVID-19.

Active monitoring of people can help in early detection of anyone who might have got the virus and then cutting off everyone who came in close contact with such a person. Such monitoring is successfully taking place in some countries like South Korea. For India, with billion phones, it should be possible to put in place a robust monitoring mechanism.

Let the post April 14 unlocking of the economy be decided taking into account based on a matrix factoring the risk susceptibility of businesses and incidence of COVID-19 presently. While COVID-19 hotspots may remain locked down for another three weeks period, the areas completely free of COVID-19 should be opened up- fully for all movement, work and businesses of the people residing therein.

From the business perspective, we should open up the least risky businesses like mining, construction, manufacturing, goods transport, warehousing, energy, oil and gas, personal transport, financial services, retail, long distance railways and the like fully from 15^th of April. Opening of these sectors would bring about 2/3^rd of workers back to the businesses.

A gradual and calibrated opening of the rest of the economy can be planned for over a period of one and a half month thereafter. We should have the entire economy functional by the end of May, 2020.

Taking into account the cost being suffered from the present lockdown and likely phase out plan, the businesses need three kinds of support.

First, many businesses, specially the small businesses, need working capital support for re-commencing their businesses. This should include funds required for payment of wages to the workers for lost wages.

Second, a smaller number of businesses will need investment support for reconfiguring their service delivery. For example, the bus transporters will have to redo sitting arrangements to eliminate the risk of contagion from passengers sitting next to each other. Taxi operators will probably need to create separating arrangements between the driver and passenger. It will be inadvisable to have someone sitting in the middle seat of economy class in aircraft.  Retailers will need to create more space in their shops for social distancing to be enforced effectively. Businesses will need to borrow for making such investments.

Third, many businesses have suffered large losses. In the lockdown period, there incomes disappeared. Many liabilities like rents, maintenance expenditure, wasting of raw materials, servicing of interest etc. however continued. A number of businesses, which are not in a position to bear such losses, will collapse if these are not helped with grant support for meeting unsustainable part of losses.

First and second type of support- the working capital and investment support- can be provided only by banks. We discuss this in the next section.

The estimated loss of GDP for the lockdown period of 21 days is about 8 lakh crores.

India has not, in the past, provided any compensation for loss suffered by the businesses on account of natural calamities. Many countries in the world are providing such support. The businesses are suffering this loss on account of public health emergency declared by the government. It is not on account of their fault. The government should therefore support such suffering businesses.

The government can make a beginning to support at least the small and self-employed businesses. While a loss assessment would be needed, this package should cover at least 25% of the estimated loss or about Rs. 2 lakh crores. If the phasing out of the lockdown continue to make some businesses inoperative, the fiscal package should build in a provision for them as well.

This will go a long way in putting Indian economy on its feet again.

Shoring up States’ finances

The state governments are in the front line of fighting the COVID-19 menace. The Centre delivers orders. The state governments implement. The medical apparatuses of the state governments needed urgent and immediate support to cope up with the epidemic. The centre did release Rs. 11,092 crore last week as its share of state disaster relief funds. The states would need more support.

The indirect tax collection has collapsed after the production of goods and services stopped post the economic lockdown. The states’ revenues from state goods and service taxes (SGST), value added taxes most specifically from the sale of petroleum products and excise duties from sale of liquor have collapsed almost entirely. States are also not collecting any revenues from stamp duty on property transactions and tax on sale of transport vehicles. These revenues form almost 100% of the tax revenues of the state. The states get about Rs. 1 lakh crore a month from these taxes. The states would lose not less than 50000 to 60000 crore of tax revenues in April 2020.

There is a guarantee that the Centre would provide 14% compounded growth in the states’ SGST revenues. The compensation released by the Centre in the financial year 2019-20 has fallen short by about Rs. 30000 crores. This need to be released without any loss of time.

The state governments will also need additional market borrowing to make up for the loss of tax revenues during April and for any loss likely to continue in future. The Government of India can authorise the States to borrow additionally for the loss of their own tax revenues. The states’ shortfall during the course of year might go up to Rs. 2,00,000 crores.

The states receive a share in central government taxes. The system followed in the Government of India is that 1/14^th of the budgeted share of the states in the central taxes is released every month with 3 instalments being released in the month of March. States are budgeted to receive Rs. 7.84 lakh crore as their share in central taxes for 2020-21. This requires the central government to release Rs. 56000 crore every month, including for the month of April 2020. This share is typically released on 15^th of the month. The central government should release Rs. 56000 crores to the states on 15^th April even though the central government’s indirect tax revenues are similarly impacted.

The centre is the master of its borrowing programme. The states though need centre’s permission. The centre can also borrow directly from the RBI. The states cannot.

The centre used to borrow from the RBI directly not long ago automatically monetising the fiscal deficit. This was stopped after the Government of India and the RBI entered in a mutual agreement obligating RBI not to participate in primary sale of bonds. Later this was made part of the Fiscal Responsibility and Budget Management (FRBM) Act. Currently, RBI can participate in primary auction only to the extent of .5% of GDP when the fiscal escape clause has been triggered. The current legal restrictions can however be amended easily.

In times of emergency like this when the businesses need support, workers need support and the state governments need support, all on account of lockdown ordered by the Centre on account of a public health emergency, the only way such support can be provided effectively is for the Government of India to borrow directly from the Reserve Bank of India. All of the support required might be of the order of Rs. 4-5 lakh crore or about 2-2.5% of GDP. It is worth doing it this way.

CREDIT SUPPORT FOR BUSINESSES AND FINANCIAL SECTOR

As explained above, the real sector businesses would need considerable credit support for meeting their working capital and investment requirement for adjusting to new demands.

Credit is extended to the businesses by banks and non-banks. Together, there is about Rs. 80 lakh crores of credit outstanding from banks and non-banks to businesses. Another Rs. 30 lakh crores have been raised by companies, more by the financial companies, in the form of corporate bonds.

There are lakhs of self-employed and small businesses which don’t receive credit from the banks. These are supported by non-banks, micro-finance institutions and informal sector. Most of these businesses borrow against collateral or at very high rates of interest. Their capacity to provide additional collateral or bear very high rate of interest is severely impaired by the economic lockdown.

There are three kinds of borrowers who need credit support.

First, the normal customers of banks and non-banks who have credit lines or loans or investment in their bonds. They would need additional working capital and investment loans. Many of these borrowers would have got their credit ratings impaired. Some of the investment grade borrowers would have also fallen a notch below. SEBI has asked rating agencies not to downgrade the ratings for some time. Banks and non-banks are unlikely to go by such unreviewed credit ratings. They are likely to be more careful as they would fear these becoming non-performing loans in time to come.

Second, the financiers. The non-banks depend on the banks and mutual funds for raising resources to provide loans. Mutual funds are facing redemption pressures and are more likely to cash their existing investments in non-banks rather than providing additional funding support. Some of the non-bank financiers raise corporate bonds and external commercial borrowings. There is likely to be subdued enthusiasm from both these channels for some time. Non-banks will turn to banks for additional funding support.

Third, the self-employed businesses and small businesses. With their capacity to borrow from traditional sources- non-banks, micro-finance institutions and informal sector- hugely compromised, they would also turn to banks for working capital support.

Current state of play makes it quite obvious that for all the borrowers- real economy businesses, non-banks and self-employed/small businesses, the only game in town are banks. If banks don’t provide them the life line of credit, a good number of them will go belly-up.

The banks themselves are not in the pink of health.

Public sector banks (PSBs) already carry close to 15% of their loans to businesses as non-performing loans on gross basis. They don’t have capacity to assess creditworthiness of businesses. They were relying on credit rating agencies. When some of these credits rated AAA collapsed, their confidence nosedived. The PSBs have turned much more risk averse. They simply don’t want to lend to private businesses.

Bigger highly valued Private sector banks (PvSBs) are quite choosy in extending credit to businesses. This has saved them but that does not provide comfort to the lockdown impacted businesses looking for loans. One of the aggressive PvSBs, Yes Bank, had virtually collapsed triggering withdrawal of deposits from many other PvSBs. These banks do not seem to have much capacity to lend to lockdown impacted private businesses.

RBI has aggressively pushed liquidity in the banking system. RBI has also bought down the cost of its credit to the banks. The banks had surplus liquidity of about Rs. 2 lakh crores on average before the economic lockdown started. RBI is pushing another 3 lakh crores plus of liquidity to banks (CRR cut, TLTRO etc.). The banks have over 5 lakh crore of liquidity support at low rates to lend to real and financial sector businesses.

Will banks lend?

The non-investment rated borrowers will not be touched. The banks are risk averse. They don’t want to lend unless doubly assured of the loans not turning into non-performing loans. Such loans are quite likely to turn non-performing. RBI also does not want banks to lend to non-investment grade borrowers. RBI stipulated that 1 lakh crore made available under the targeted long-term repos (TLTROs) is to be invested only in investment grade credits.

Investment rated corporates may fare better. But that is not going to be a smooth passage for them either. Many of the AAA rated companies (there are quite a few now) turned non-performing in the recent past, turning thousands of crores of loans into non-performing loans. This has made PSBs extremely risk averse. When the entire economy can be locked down on account of perceived risk of COVID-19, why can’t banks lock themselves down from lending on account of risk of loans turning into non-performing? This is likely to be the attitude.

Is there a way out?

Turning the banks into risk takers and building capacity and systems to assess and price risk very competently is not possible in the short run. It calls for basic structural reforms and change of attitudes and incentives.

There are two potential solutions.

One, RBI leads and takes a part of the risk. This will require RBI to buy the corporate bonds and mortgage loans. RBI has never done it in the past, but many central banks in the world do. Several central banks have announced bond and mortgage purchase programmes after COVID-19 attacked. RBI used to buy bills of exchange and other short-term instruments from the private businesses in the past. RBI can institute a corporate bond and mortgages buying programme. A programme of the size of 1% of GDP or about 2 lakh crores would extend considerable support. This should include buying bonds of non-banks as well.

Second, there is considerable sickness in some sectors. Bank’s non-performing loans in these sectors are also responsible for their risk-averseness. These non-performing loans need to be resolved. This will help in managing COVID-19 induced slowdown as well. Some specific sectors- e.g. residential real estate, telecommunications, energy- can be initially picked up. A special non-banking resolution authority can be created for each specific sector. The resolution authority can buy the non-performing or likely to turn non-performing loans of these sectors at fair market value and pay off the banks. For this, RBI will need to extend refinance facilities to the resolution authorities. The resolution authority, after they sell the non-performing businesses to the competent parties, can pay the RBI back.

Unprecedented times require unprecedented solutions. It is crisis time when you can experiment with unconventional solutions. These might work.

If the RBI does not do so, chances of the liquidity binge unleashed getting stuck with the banks or leaking to the central and state governments only are quite bright.

CONCLUSION

At least 10 crore workers of the mining, construction, manufacturing and services sectors have been rendered jobless on account of economic lockdown ordered to contain the COVID-19 spread risk. They need an immediate fiscal support of Rs. 2000 per month for three months. The Government of India should declare a fiscal package of support of Rs. 60000 crores for helping these workers cope up with the risk of disruption.

Barring farm sector, essential goods and services and e-commerce businesses where it was feasible to work from home, the rest of the economy is totally shut. Twenty-one days of shutdown of approximately 70% of the economy would cause about Rs. 8 lakh crores of loss of value addition/ GDP to businesses.

The Government of India should make a departure from the past to help the businesses, especially the small and own-account businesses which are likely to fold-up if not helped with grant support. The Government should support the small and self-employed businesses by an estimated amount of Rs. 2 lakh crores. If the phasing out of the lockdown continues to make some of these businesses inoperative, the fiscal package should build in an additional provision to cover that up as well.

The economic lockdown should be phased-out by lifting it up from the vast rural areas and the cities which have no incidence of COVID-19 spread to undertake all economic activities regulating their interactions with outsiders under a safe protocol and subject to taking up certain additional precautions to eliminate the risk of spread. Several low risk industries like mining, construction, manufacturing etc. should also be opened up with these precautions. Hot spots and other areas can be opened up only when the there is no more incidence of COVID-19. Services industries would require to readjust their business models to eliminate the risk of passive transmission.

The state governments revenues have suffered massively. The Government of India should release the held-up amount of approximately Rs. 30000 crore of GST compensation. The Government of India should also release the instalment of Rs. 56000 crores of the states’ share in central taxes on due date i.e. 15^th April.  The states should be provided additional borrowing limits to cover up the shortfall in their tax revenues for the year 2020-21.

The Centre may need to borrow 2-2.5% of GDP or about Rs. 4-5 lakh crore additionally for these expenditures. It seems necessary and advisable that the Government of India borrows this directly from the RBI instead of borrowing from the market. FRBM Act should be amended to enable this.

The banks have been provided considerable liquidity by the RBI of about Rs. 5 lakh crores. The banks are however unlikely to lend these funds to businesses, except to some high investment grade credits. The banks might actually use this liquidity to invest in Government of India and State Government’s bonds if the Government of India chooses not to borrow directly from the RBI.

It is time the RBI starts assuming some risk and buying corporate bonds and the mortgage backed assets in India. This will help credit flow to the businesses.

Unconventional solutions are needed for the unprecedented times.

SUBHASH CHANDRA GARG

APRIL 7, 2020