It is clear now that the economy is going into a prolonged downswing, and chances of a 5% growth in FY21 are slim. Unless the government steps in with some stimulus, even a 4.6-4.7% GDP growth looks like a tall ask. While there is a clamour for a rate cut, that could prove less useful at this point because corporate credit risk is set to deteriorate sharply, and banks should be very cautious. But, a fiscal stimulus of at least Rs 1-1.5 lakh crore is needed even if tax collections come in well below targets—they could fall short by 30-35%. We need to keep the economy going, and this isn’t the time to worry about high fiscal deficits.
The Rs 45,000 crore that the government is expected to mop up from the higher levies on auto fuels will come in handy; with Brent crude trading at sub-$28/barrel, it could hike levies further. It should. This time around, though, the government should not make the mistake of frittering away resources on large and highly profitable companies—never in India’s tax history has a measure been so ill-thought-out and ill-timed, and cost us so dearly.
No tax-breaks for India Inc, and no tweaking the rules to benefit investors in stocks, or mutual funds. The funds should be channelled into smaller businesses, which could be given a line of credit and allowed a moratorium for tax payments, maybe even loan re-payments.
The government would do well to spend on projects—construction of infrastructure, roads—to ensure daily wage earners are able to make a living, and small farmers, too, could be helped. Those most vulnerable to losing their incomes are workers in the informal or unorganised economy—waiters, truck and taxi drivers, salespersons, shop assistants, etc. While the corona pandemic could end by early May, this category would, nonetheless, be the worst hit.
It is wishful thinking as the government doesn’t seem to be serious about meaningful reform, but this is a good time to roll out labour reforms. By protecting labour, the government has only frightened the corporate sector from hiring; easier hire-and-fire rules would encourage them to take on more people. And, if we can bring down wage costs, we stand some chance of competing with peer economies.
Meanwhile, RBI could consider some forbearance on asset classification for MSMEs; a 50 basis point rate cut, should it happen, can, at best, spur lending at the margin. Those who believe the loan markets will take off are underestimating the extent to which finances of businesses can deteriorate, and risk perceptions; judging by the recent spike in corporate bond yields, it is evident lenders are already cautious. Remember, loan growth has trended down to near-two year lows, dropping to sub-6%, and this was before we realised what coronavirus can do to us. There is some Rs 3 lakh crore of liquidity lying around, but banks don’t want to lend. Are we expecting risk-averse banks to turn adventurous at a time when businesses are surely going to becoming weaker? That is unlikely. From a borrower’s point of view, the already small appetite could become smaller. No promoter is going to invest because interest rates have fallen 50 bps; in fact, real lending rates have actually gone up by about 50-60 bps in the past few months. The collapse in demand—for goods and services—exacerbated by the epidemic, will see production being scaled down. Given the uncertainty surrounding businesses, jobs, incomes, and even wealth, few individuals would want to leverage themselves at this point.
To be sure, MSMEs will need credit; the disruption will all but choke off their cash flows. From a lender’s point of view, however, it is critical to use capital carefully, and to lend only to the soundest and sturdiest of businesses; it may sound harsh, but there is little point throwing good money after bad, and any additional lines of credit should be sanctioned only where it is certain that the money will be put to good use. In times of severe supply chain disruptions, it is difficult to use working capital efficiently. But, capital is precious—because there is so little of it, and it is becoming costlier by the day—and so, must be put away. Indeed, even before one talks of growth capital, it looks like banks are going to need a lot more capital for provisions; there is likely to be a sharp increase in defaults, and NPAs are now certain to rise for a host of sectors like construction, real estate, telecom, tourism, transport, and hundreds of companies are likely to be downgraded.
The fact is that even the best and biggest of companies are going to be impacted, and as cash flows weaken, bankers will not be able to justify additional credit. MSMEs are going to be in even bigger trouble because they simply do not have the financial wherewithal to tide over a crisis of this nature. If, as S&P says, global recession is here, and the global economy will grow at 1-1.5%, and Asia-Pac at less than 3% in 2020, India’s exports, which are already under-performing, will be badly hit. But, we must protect the banks.