If inclusive growth dominated economic policy objectives in 2008 once the crisis fires had died down, the policy mantra after the Covid-19 crisis has become one of ‘inclusive stabilisation’. A single variable sets apart the post-crisis policy landscape between the two crises. This is inflation. Inflation has upended inclusive growth ever since central bankers made price stability their exclusive policy goal some months ago, willing to forego growth until achieved. Inclusive stabilisation—a macroeconomic policy mix in which monetary and fiscal policies work together to control inflation but the composition of public spending is adjusted to protect the impact upon vulnerable persons—has replaced inclusive growth. If inflation is to be checked, some output sacrifice is inevitable. The best that can be done under the circumstances therefore, is redistribute expenditure to help the neediest. Inclusivity has changed complexion this time round.
It is not as if inclusive growth—an idea combining how economic growth is achieved with how it is distributed so that all income segments benefit to reduce relative inequality—has not been central to pandemic crisis policies. In fact, it was universally understood and recognised very early on that the health-cum-economic crisis impact would be very uneven, its incidence upon some economic activities, employments, and socio-economic groups extremely severe. Its two-year persistence aggravated the harshness, widening the gaps. Despite prompt support, with subsequent rounds, in many countries, the letter K has become a popular acronym for unequal recoveries everywhere. Global inequality is observed having risen, reversing decades of convergence, according to the World Bank’s recent study (Poverty and Shared Prosperity, 2022); inequality within countries has increased too because the poorest faced the highest losses in health and education, while the creditable progress in poverty reduction has ground to a halt.
Recovering quickly, strongly and inclusively was the foremost policy priority therefore. Through 2021, for example, the IMF recommended effective policy support to secure recoveries and safeguard participatory growth; it noted disparate recovery speeds in the advanced and other economies due to unequal vaccine access and stimulus afforded, the widening faultlines, and advised withdrawing support with caution. Even early this year, when inflation compelled monetary tightening in many countries, the fiscal policy advice was to prioritise health and social spending, focusing support on the worst affected within narrower spaces than before.
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But inflation was expected to decrease gradually this year as supply-demand imbalances corrected and monetary policy responded in the major economies. This is no longer the case. Inflation has spread like a wildfire across countries with varying severity, and has overwhelmed growth. The proximate causes? Partly pandemic-induced restrictions affecting production and trade, partly the Russia-Ukraine war sanctions, food- and energy-price shocks, and demand-side impulses from fiscal overstimulation, particularly in the US. The persistent broadening of price pressures risks entrenchment, squeezing living standards and resulting in a ‘cost-of-living crisis’. Growth has taken a backseat in the equation. Monetary tightening, and its associated real economic costs, is upfront and frontloaded as any delay increases the costs.
This isn’t all. Belated recognition of the nature of inflation (temporary or persistent) by the US Federal Reserve led to late responses. Playing catch-up always means faster and bigger interest rate hikes to prevent inflation expectations from dislodging, and to restore credibility. Things are nastier when the central bank happens to be the world’s reserve issuer, or the US Fed, which, in the last two months, repeated its intent to continue raising rates as long as inflation is not quelled and notwithstanding the inevitable economic pain this will cause. Monetary attitudes are similar everywhere although central banks differ in their respective interest rate paths. An ever-strengthening dollar has all other currencies in its grip, eliminating any choice whatsoever between inflation and growth.
As for inclusiveness, this must now be accommodated within the confines of an overall disinflationary macroeconomic policy stance. This means targeted fiscal support to protect the most vulnerable population, e.g., from elevated food and energy prices, but the space for this will now have to be found by either cutting other spending or by raising taxes. Otherwise, if fiscal policy is on an expansionary path when monetary policy is battling inflation, that will only undermine the latter by pressurising inflation.
Nowhere is this better exemplified than by the United Kingdom, where a new leadership recently presented a growth plan that, amongst other proposals, consisted of cutting corporate taxes with the gap to be financed borrowings at a time when public by debt is around 96.6% of GDP, inflation at 9.9% in annual terms, and the central bank raised its policy rate by 50-bps in quick succession this August and September. Unsurprisingly, markets reacted forcefully, the pound plunging with an astonishing rise in bond yields that compelled the central bank to stabilise purchases in contravention of its avowed monetary stance.
As we can see, there isn’t inclusive growth this time round but only inclusive stabilisation. With government budgets and balance sheets stretched beyond limits, the high public debt levels are compelling careful management of the underlying dynamics; any untoward inflationary spiral could easily tilt the balance unfavourably.
For India, so far so good. Public revenues have been buoyant, recovery on track. Fiscal planning, which focused upon capital expenditure to recoup growth, has adhered despite additional expenditure for food, fertiliser and fuel subsidies that could be accommodated by a higher-than-budgeted nominal growth and tax collections, i.e., without any adjustments. Harmonising with monetary policy, in tightening mode, has not been a strain therefore. However, the first-quarter growth disappointment could repeat with aggravation. Signs of the economic momentum abating are becoming visible. Tax revenues could reflect this soon, drawing tighter the fiscal strings. The choice for inclusive stabilisation in that case, would have to come from sacrificing capex—an unfortunate coincidence, as it were, with rising interest rates or the cost of debt servicing. Inflation, which permitted the pursuit of inclusive growth after the 2008 crisis, has made this time very different.
(The author is New Delhi based macroeconomist)