The HINDU Notes – 07th May 2020 - VISION

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Thursday, May 07, 2020

The HINDU Notes – 07th May 2020

📰 Resuscitating multilateralism with India’s help

It could lead a coalition to bridge the global deficit of trust with China through a regime of rules

•Even as the coronavirus pandemic unleashes its devastation across the globe, the great and the good have been quick to remind us of the value of multilateralism and the necessity to preserve it. And yes, they are right. To reduce the further spread of the virus, to develop effective medical treatments, and to curtail the worst effects of the inevitable recession that is already in the offing, cooperation among nations will be necessary. But there is a problem: multilateralism is possibly at its weakest today, when the need for it is more dire than ever before. Unless the fundamental problem is addressed, no meaningful fix will be possible.

•We believe that India may be uniquely positioned to help resuscitate multilateralism. With the United States facing multiple internal challenges including the prospects of a deeply divisive Presidential election in November, New Delhi (together with like-minded partners even beyond the usual suspects) could assume leadership in strengthening constructive transnational cooperation. At a time when China is facing a global crises of credibility, India may even consider a last-ditch attempt at mediation; to temper what is increasingly seen as Beijing’s unilateralist revisionism; revive the promise of the gradual socialisation of China into the international system; and its acceptance of the norms and rules that regulate the principal multilateral institutions.

Deepened by the pandemic

•The malaise that afflicts multilateralism is not new. The paralysis of all three functions of the World Trade Organization (WTO) — negotiation, dispute settlement, and transparency — was one sign of that deep-rooted malaise; the severely dented credibility of the World Health Organization (WHO) is just another more recent indicator. The pandemic has heightened the crisis of multilateralism, not created it. And amidst the many cracks in the system, it has deepened one especially dangerous fault-line: multilateralism, in its current form, is incapable of dealing with misuse by “systemic rivals”, and this goes beyond the personality of its current Director-General, Dr. Tedros Adhanom Ghebreyesus, and his perceived Chinese bias.

•The underpinning assumption of the post-war multilateral system was that peace and prosperity went hand in hand. Some like-mindedness and a commonly-held purpose were also assumed among members: increasing economic integration and shared prosperity would help enhance these affinities and contribute to peace. Countries with fundamentally different domestic systems of governance did not form a part of this multilateral order, as was the case with the Soviet bloc in the Cold War years. None of our multilateral institutions was built for a world where the ties of interdependence — which were supposed to enhance the well-being of all — could themselves be “weaponized” for nationalistic gain, at the expense of other players. The misuse of existing rules (or loopholes within the existing rules) by several countries, especially by China (e.g. via forced technology requirements, intellectual property rights violations, and subsidies), to gain an unfair advantage in trade relations was already attracting critique in the last years. But the pandemic has provided us with some even more alarming illustrations of how damaging the weaponisation of global supply chains can be.

•As death tolls rose (in some cases, to catastrophic proportions) many countries responded with export restrictions on critical medical supplies. This was far from ideal, but almost inevitable given the absence of adequate stocks within countries, and little in the rules to curb export restraints. Recognising the shortages that countries were facing — masks, personal protective equipment, ventilators and more — to deal with COVID-19, China offered to sell these products to countries in need. For instance, when the European Union (EU) put up export restrictions, China stepped in at Serbia’s request. But China’s coronavirus diplomacy did not stop there. When India complained that test kits imported from China were faulty, China slammed it for “irresponsible” behaviour. When Australia indicated that it would conduct an independent investigation of China’s early handling of the epidemic, China threatened it with economic consequences. Add to this the dangers of using faulty equipment on critical patients, plus the risks that several actors, including the EU and India, see of predatory takeovers of their companies by China. The pandemic is teaching countries, through bitter experience, that weaponised interdependence is not just a theory but a practice that is rapidly evolving. And it can have life and death consequences.

•Against this background, repeated calls by heads of governments and international organisations urging countries to remain committed to multilateralism ring hollow.

Reforming multilateralism

•To argue for a multilateral rules-based system will never suffice on its own; one must always address the issue of the goals and values that underpin the rules. The remedies are obvious.

•First, of course, is the need for reassurance and policies that reflect a renewed commitment to the raison d’étre of multilateralism. A “retreating” United States must, of course, demonstrate in word and deed that autarchy is not the way forward (of this global crises) and that it remains committed to strengthening global supply chains which are based on the promise of ensuring global stability and the attendant promise of peace and prosperity.

•Second, irrespective of the above, there is an urgent need for some strategic decoupling, handled smartly in cooperation with other like-minded countries. This will not happen overnight. And it will undoubtedly cause considerable disruption to existing global value chains. This in turn, will result in a shrinking of the global economic pie. We will be less prosperous. But we will also be more secure.

•Third, flowing from the above, a multilateralism that recognises the need for decoupling will necessitate closer cooperation with some and distancing from others. Membership of such renewed multilateral institutions would not be universal; rather, one would limit deep integration to countries with which one shares first-order values — such as pluralism, democracy, liberalism, animal welfare rights, and more.

A role for India

•The current crisis in multilateralism could be a remarkable opportunity for India, a country whose pluralism, democracy, and liberalism have often been underestimated by the West. At an immediate level, the gains are obvious: India has also maintained a consistent reserve about a blanket entrenchment in global value chains. As some constituencies in the West seek a gradual decoupling from China, they would be well served to look toward India.

•To make use of the opportunities, for itself and for the provision of certain global public goods, India’s cooperation with like-minded actors will be key. Here, India could work closely with the Alliance for Multilateralism (an initiative launched by Germany and France) to shape both the alliance itself and the reform agenda at large. Working together with a group of countries from the developed and developing countries could further amplify India’s voice.

•But beyond these immediate gains could be a greater role for India. Not since Chernobyl has global public opinion lost as much faith in the competence and integrity of a great power as it has in China because of COVID-19 and the apparent malfeasance and the opaqueness with which it has dealt with the crises. While China may recover faster than most economically, and its military might remains intact, its image as a reliable partner has suffered a huge dent. Neither aid diplomacy nor the unleashing of Chinese soft power can easily recover the trust deficit that exists today between China and much of the rest of the world. While prudence may demand gradual decoupling, it is critical to not be seen as immediately isolating China; with fewer stakes in world order, Beijing’s turn towards revisionism could be faster than anticipated. Instead, India could lead a coalition to bridge this deficit of trust through a regime of incentives and sanctions that seek to embed Beijing into a much more guided and directed socialisation into the rules of the international system. Clearly, the strategic and economic have, however, to be in consonance with each other. In the longer term then, whether multi-polarity is the only firm guarantor of a sustainable and fairer multilateralism requires further debate among scholars and practitioners alike.

📰 Everyone wants a good stimulus

Such measures can take effect only after the lockdown ends

•From time to time some of India’s most respected CEOs say “the only thing we ask of the government is to leave us alone and let us grow”, whereas often they turn to the government to bail them out even in normal times. The irony is inescapable. While pleading for less or no government, corporate India wants to always privatise profits and socialise losses. So, when a Jet Airways crumbles, or a Yes Bank implodes (for reasons other than business risk), everyone goes running to the government seeking bailouts. Now, it is natural that with a legitimate contraction in economic activity due to the COVID-19 pandemic (and deep uncertainty), which is an endogenous shock, everyone wants a good stimulus.

•But what will constitute a “good stimulus”? The poor must be supported, but what is the best way to do it? Indeed, who should get what, when should they get it, and how? The Reserve Bank of India can print notes, no questions asked, but this is not without serious consequences and the trade-offs need to be understood.

Supply-side shutdown

•First and foremost, there is this rampant belief that a fiscal stimulus package has to follow the timeline set by the media or by consultants, which won’t happen. No one appears to understand that you cannot ‘stimulate’ an economy during a supply-side lockdown and that there are ‘announcement effects’ — both good and bad — that go with the stimulus. It is like trying to jump-start a dead engine when you also have a flat tyre! So, any ‘good stimulus’ can only come into effect post lockdown and extensive consultations are on with everyone for that.

•Second, everyone, when talking about the stimulus, conveniently forgets that government revenues too will be seriously hit. This will be anywhere from 2-3% of GDP (given that disinvestment target itself is 1% of GDP and the realisation is likely to be close to zero in the current financial year). So, the effective fiscal deficit is going to be somewhere around 7.5 % (if you take into account all the off-balance sheet borrowings). So, while everyone is talking of how the U.S. government has set aside $2 trillion for bailouts or 9% of its GDP, no one is ready to face the trade-off that India’s starting point is going to be at around 7.5% of GDP fiscal deficit (net of savings due to both, cuts and deferred expenditure), and then how much more can we afford on top of that? On top of this is all the ‘merit expenditure’ on health and direct income support to the poor. Can we still formulate a stimulus package comprising 10% of GDP, to be footed by the Central government alone?

•It may be worthwhile to bear in mind that from 1947 to 1997, the Central government always routinely monetised its deficit, without leading to high rates of inflation, much less hyperinflation. The Fiscal Responsibility and Budget Management (FRBM) limits are hardly a grand success and routinely all governments have broken the barrier. Other countries with huge debt-to-GDP ratios like Japan (>200%) and U.S. (125%) get away with barely a rap on the knuckles but India is pulled up for minor slippages on a 70% debt-GDP ratio.

•Third, some prominent commentators have argued extremely fallaciously, that bailouts should be based on need and not affordability. Given the data above, can one forget about affordability and print money with all the attendant side effects? Which economist will go and face the electorate, if the currency plunges, inflation rages and rating agencies downgrade us to junk? Shouldn’t there be a more nuanced approach to what constitutes a ‘good’ stimulus?

Giving grant to States

•Fourth, indeed there is a lot of liquidity in the economy, but limited credit is flowing due to anaemic lending. Thus, another mantra being espoused is that bank managers should be incentivised to lend and the government should indemnify loans given during this period. This could well lead to bogus companies springing up overnight to grab the stimulus in collusion with banks. It remains to be seen what fiscal support tools the government will use that can ensure that credit flows to various sectors. The government owes about ₹1 lakh crore on tax refunds and also had promised to make up for any difference to the States, if the GST did not grow by 14% per annum. This is the time for it to transfer this to the States as a grant, for one year, to offset the revenue loss to States. Fifth, there is talk of going to the International Monetary Fund (IMF). Do we really need the IMF’s conditionality-led bailout when there is no foreign exchange crisis for financing rupee expenditure? What about the perceived global stigma of doing so? Won’t the conditionality-led cure be worse than the disease?

•Only a fool confuses fate with destiny. Fate is what happens to us. Destiny is what we make in spite of our fate. India’s destiny appears relatively safe, if we cast the mind’s eye around the globe. Lifting the lockdown will be the first step towards a good stimulus and one does need to un-handcuff a billion people to save their lives too.

📰 A war-like state and a bond to the rescue

With the pandemic’s shadow over the economy, a Consol Bond issue is a more compelling solution for the government

•As India’s ominous COVID-19 curve stretches further, urgent attention needs to be paid to an economy that is teetering on the edge. Several economists, former Finance Ministers and central bank Governors have made the clarion call for a large stimulus to pull the economy back from the brink. There are a few who seem to believe that there are ways and means to provide this stimulus without breaking the bank as it were. As we spend more time in a national lockdown or quasi-lockdown situation, I believe that austerity measures and reallocations notwithstanding, we will definitely need to go beyond current revenue receipts to fund the complete stimulus.

A gathering financial storm

•In the Budget before the pandemic, India projected a deficit of ₹7.96-lakh crore. However, even then there were concerns around off balance sheet borrowings of 1% of GDP and an overly excessive target of ₹2.1 lakh crore through disinvestments. The financial deficit number is set to grow by a wide margin due to revenue shrinkage from the coming depression that will most certainly be accompanied by a lack of appetite for disinvestment.

•In addition to the expenditure that was planned, the government has to spend anywhere between ₹5-lakh crore and ₹6-lakh crore as stimulus. The Finance Ministry is sanguine about this fact as was clear in a press conference held by the Economic Affairs Secretary on March 31, 2020, where he said that the government will not exceed the borrowing limits indicated in the Budget. The insipid stimulus provided by the government so far and recent announcements by the Reserve Bank of India (RBI) only serve to highlight how out of touch with reality they are. All the RBI’s schemes are contingent on the availability of risk capital, the market for which has completely collapsed. The two have tried several times over the last year to nudge banks into lending to below investment grade micro, small and medium enterprises, but have come up short each time. Furthermore, while the 60% increase in ways and means limits for States is a welcome move, many States have already asked for double the limits due to the shortages in indirect taxation collections from Goods and Services Tax, fuel and liquor. The government and the central bank need to understand that half measures will do more harm than good. It will only lull us into a false sense of security, much like a lockdown without adequate testing.

Echo from the past

•Politicians and epidemiologists across the world have used the word “war” to describe the situation the world is currently in. As we wage a united war against this virus, it would be interesting for us to look at war-time methods of raising financing. One such method that has been used as early as the First World War is the Consol Bond. In 2014, the British government, a century after the start of the First World War, paid out 10% of the total outstanding Consol bond debt. The bonds, which paid out an interest of 5%, were issued in 1917 as the government sought to raise more money to finance the ongoing cost of the First World War. Citizens were asked to invest with the advertising messaging: “If you cannot fight, you can help your country by investing all you can in 5 per cent Exchequer Bonds. Unlike the soldier, the investor runs no risk.”

•One cannot help but wonder how successful a Consol Bond issue would be for the Indian government if the Prime Minister had made a similar call to every citizen of our country to invest in them instead of making donations to PM-CARES, or the Prime Minister’s Citizen Assistance and Relief in Emergency Situations Fund. After all, most of the Consol bonds in the United Kingdom are owned by small investors, with over 70% holding less than £1,000. Furthermore, unlike PM-CARES, the proceeds of the bonds could be used for everything — from Personal Protective Equipment for doctors to a stimulus for small and medium-sized enterprises.

Why it is a better option

•There is no denying the fact that the traditional option of monetising the deficit by having the central bank buy government bonds is one worth pursuing. However, given an as yet hesitant (to raise debt) Prime Minister’s penchant for making citizens active participants to his missions, he might view a Consol Bond as a more compelling alternative. Furthermore, with the fall of real estate and given the lack of safe havens outside of gold, the bond would offer a dual benefit as a risk free investment for retail investors. When instrumented, it would be issued by the central government on a perpetual basis with a right to call it back when it seems fit. An attractive coupon rate for the bond or tax rebates could also be an incentive for investors. The government can consider a phased redemption of these bonds after the economy is put back on a path of high growth — a process that might take that much longer for every day we extend this lockdown.