Budget 2021: ‘Sugar Rush’-Led Revival May Still Need Government Spending Support: JPMorgan’s Sajjid Chinoy

The Covid-19 crisis, which will likely lead to a 7.7% contraction in the economy in FY21, will push up the general government fiscal deficit — which includes that of the centre and states — to near 11-12%, and the nation’s debt-to-GDP ratio to near 85%. While economic growth has picked up in the second half of the year, labour market scars remain.

Against this backdrop, the government has to balance multiple objectives, said Chinoy in a conversation with BloombergQuint.

How can the government balance these two objectives? Chinoy explains the numbers like this:

• Given the recent surge in government spending, JPMorgan said the central government’s expenditure will be at about 14.8% of GDP in FY21, up from 13.2% last year. That’s about 1.5-1.6% of GDP higher for the centre even though state government expenditure may contract.
• For next fiscal, the objective will be to maintain that and actually push it up by another half a percent or 0.7% of GDP. “I think anything more than that is not realistic from an absorptive capacity perspective,” Chinoy said.
• But in order to ensure medium-term sustainability of debt, the government must also aim to lower to trajectory of the debt-to-GDP ratio. “As such, the government has to assess what the fiscal deficit path is going to be over the next three years, such that the debt-to-GDP ratio gradually comes down from 85%,” Chinoy said.
• The way you can do both things is to actually have a large infrastructure push that drives higher expenditure next year but pay for that entirely by aggressive asset sales. This will, in turn, push up nominal GDP growth to near 10% in the medium term, which is needed to help bring down the debt-to-GDP ratio to more manageable levels.

“Given where global equity markets, global liquidity and domestic asset prices are, I can’t think of a better moment to take advantage of the gulf between the real economy and asset prices,” Chinoy said.

If additional spend is funded out of asset sales, achieving a significantly lower fiscal deficit will be possible just because of the improved economy next year, Chinoy said.

By the end of FY21, it is likely that the gross tax-to-GDP ratio will be down only by about 0.1% at 9.8% of GDP. This is because additional excise duty collections, particularly on account of petroleum products, will contribute an additional 0.7% of GDP.

‘Sugar Rush’-Driven Rebound

Avoiding a cut in government expenditure next year is important given the K-shaped recovery seen across many economies, including India. “While high-frequency indicators are suggesting a shallower contraction than the 7.7% forecast by the Central Statistical Office, what we are seeing is a ‘sugar rush’ driven by the forced savings of the high income earners,” said Chinoy.

“The top 10% have had their incomes preserved, they’ve got fuel in the tank because their savings rates were forced up for two quarters and we’re seeing that pent-up demand expressed now,” Chinoy said. “So, that sugar rush is going to play out over the next few quarters and will clearly drive consumption but that’s a one-time phenomenon.”

In contrast, the bottom 20 or 30% have seen a more permanent shock in terms of income losses and wage cuts. Chinoy pointed to labour market data which remains weak. The CMIE labour market survey data still suggests a loss of 18 million jobs. PMI surveys indicate that employment is lagging output. And data from the Mahatma Gandhi National Rural Employment Guarantee Scheme shows that demand for work is still about 50% above last year.

Another way to understand the divergence in the economy is to look at share of income. The relative share of income has moved from the bottom percentile of income earners to the top. For every dollar that moves from the bottom to the top, the marginal propensity to consume is actually lower, said Chinoy, adding that this has consequences of growth and will need to be factored into policy choices next year,

To support the lower income segments of the economy, spending, particularly via infrastructure and public works programmes, will be important.

These projects have large multiplier effects, they increase demand, they are labour intensive and they increase medium-term competitiveness. “So, for me, this is a win-win-win. Now, to the extent that the global economy picks up, that’s an added bonus, but given the volatility in the global economy we can’t bank on that as a growth strategy over the next three years. It will have to be public investment-driven.”

Watch the full conversation below: