Unsurprisingly, a few days after the RBI forecasted more pain for the economy owing to steep fall in private consumption, aversion for investment among the corporates, poor flow of credit from the risk-averse banks and strained public finances impeding undertaking of any mitigative measures, National Statistical Office announced that Indian economy saw its worst contraction in decades: its Gross Domestic Product shrank by 23.9% in the first quarter of 2020-21 in comparison to the same period of last year.

According to Gita Gopinath, Chief economist, International Monetary Fund, India, with a contraction of 25.6% quarter-on-quarter in the first quarter of 2020-21 — a tad above the NSO’s figure of contraction — has become the worst performing economy among the G20 nations. Of course, all G20 countries, except China which recorded a growth of 12.3% after contracting in the January-March quarter, have recorded contraction in their growth, but the worst performer is India followed by the UK with a contraction of 20.4%.

Now the moot question is: Why India suffered the most vis-à-vis the rest of the G20 countries? As the RBI observed elsewhere, the obvious answer is: the all-round retrenchment in economic activity due to stricter imposition of lockdowns in different parts of the country in July and August to contain the spread of novel corona virus. Owing to the lockdowns, the private consumption has lost its discretionary powers across transport services, hospitality, recreation and cultural activities. That aside, even during pre-pandemic period the quarterly GDP growth numbers have been falling for the last six quarters barring the fourth quarter of 2018-19. Cumulatively this resulted in pessimism among the consumers about the overall economic situation eroding their confidence to an all-time low.

The net result is: unprecedented fall in the consumer demand, which incidentally has a weight of almost 60% in the GDP. With a fall of around 27% in private consumption, the real situation may still be worse, for three-fourths of the economy is in the informal sector which the GDP data often fails to capture fully. The more alarming is the fact of the wide-spread nature of the contraction: it spread across capital goods, consumer durables, retail, infrastructure and construction, which incidentally suffered the most with a steep fall of 50%. The fall in capital goods production by about 20% is perhaps, a pointer towards a well-entrenched economic slowdown. Over it, exports, in sync with global downturn, contracted by around 20%. Agriculture is the only sector which recorded a modest growth of 3.4% in year on year terms.

Today, given the limited fiscal space and the need to stimulate a durable growth, the greatest worry is not what has just happened in the first quarter, but the forecast of the RBI in its Annual Report about the certainty of the COVID-19 induced economic contraction to extend through the July-September quarter.

So, that being the reality, the question is: What is the way forward? The RBI has suggested that the government may raise funds by monetising its assets in steel, coal, power, land and railways and use the same for targeted public investment. But the private corporates being already in high debt may not evince interest to raise fresh capital for investment, that too, when the system is already saddled with excess capacity. Which means, government may not be able to raise funds through its privatisation efforts.

In the light of this reality, one section of economists are calling for the government to shift its focus from supply-side to demand and stimulate consumption by stepping up its own expenditure by borrowing from the market or the RBI instead of hopping for the people to draw down their own savings indefinitely as the poor and the middleclass might have already wiped out their savings. They stress the importance of government protecting the health of the economy by reigniting demand and to accomplish this objective, they are even advocating “monetization” of its fiscal deficit. When, “the demand is depressed and the environment is disinflationary”, economists opine that inflationary consequences “should not be a central worry” of the government.

There is also an argument that it is preferable to appoint an independent committee by government to evaluate the experience so far gained in implementing GST and recommend a better way forward. It is also observed that there is an urgent need to clean up the stressed balance sheets of corporates by raising the efficiency of implementing the bankruptcy and solvency procedures.

Intriguingly, some are vociferously demanding the government to put money in the hands of consumers to create fresh demand. But this is fraught with risk, for such a move can at best create fresh demand but it cannot sustain economic growth for long. On the other hand, as the RBI observed elsewhere, investing in the “improvement of quality and efficiency of the physical infrastructure, which is still significantly lags behind the global median” goes a long way in reversing the current plight of India’s manufacturing sector that is locked in structural slowdown for “quite some time”.

In a sense what is therefore needed is increasing government expenditure on creation of such assets which would create employment immediately and thereby increase demand, while sustaining growth for long. Else, as a section of economists warn, the present contraction may continue into next year as well.