Wave of disruption

New Covid cases could threaten the fragile economic recovery

The Delhi government on Monday decided to extend the curfew for a week after the capital city recorded over 25,000 new Covid-19 cases on Sunday with a positivity rate of about 30. But the national capital is not the only region struggling to cope with a sudden surge in infection. Maharashtra is already under curfew and the state government is reportedly contemplating imposing stricter curbs. A number of other state governments have also imposed some kind of restriction to contain the spread of the virus and save the medical infrastructure from getting overwhelmed. Steps taken by state governments are understandable and perhaps necessary, but all this will affect economic activity. The economic outlook could worsen considerably if the Covid situation does not stabilise quickly and the states are forced to extend lockdowns.

Professional forecasters have started revising their growth forecast for the current year. While some economists believe that the economy will not suffer as much as last year because both companies and governments have a better understanding of the situation, many brokerages have started downgrading growth projections to as low as 10 per cent on local lockdowns disrupting overall demand and supply, and threatening the fragile recovery. It is likely that the actual output in the current quarter would be lower than the third and fourth quarter of the last fiscal year. Policymakers would need to interpret economic data carefully. It will be important to look at the actual level of gross domestic product (GDP) sequentially and not solely depend on year-on-year comparisons. In fact, both the government and the Reserve Bank of India (RBI) would do well to start preparing for this rapidly worsening Covid condition.

The latest revenue collection data suggested that economic activity was recovering at a faster than the anticipated rate with tax collections exceeding the revised estimates for the last fiscal year. But the ground reality has changed significantly over the last few weeks and could once again unsettle Budget calculations. The government has assumed a nominal GDP growth rate of 14.4 per cent for the current year. Although at one point the estimate looked fairly conservative, it might become a tall ask if the pandemic is not contained soon. While slower than expected growth will affect revenues, the government will also need to extend support to the most vulnerable sections. Migrant labourers, for instance, are leaving their place of work and will need support.

The government should restart the free distribution of food grains and allocate more resources to the rural employment scheme. Although this will be unavoidable, lower revenues and higher expenditure would increase the fiscal deficit and borrowing requirements. This will put further pressure on bond prices. Liquidity injection to contain bond yields — as the central bank has been doing — could increase risks to inflation. Disruption in supply chains and higher commodity prices would also push up the inflation rate. While the retail inflation inched up to 5.5 per cent in March, the rate based on the wholesale price index surged to an eight-year high of 7.39 per cent. Higher inflation will again affect the economically weaker sections of society. But if the RBI doesn’t intervene in the bond market, interest rates would go up and affect economic activity. There are no easy policy options for the government and the central bank.