The crumbling of India’s economy

ByMaitreesh Ghatak
Mar 24, 2020 04:57 PM IST

Economic relationships, supply and demand will be hit severely. Go in for direct income transfer

Only a few weeks ago, we were talking about the persistent economic slowdown, the revenue shortfall in the Union Budget, and the jobs crisis. Now that the menacing winds of a pandemic rip across the world, literally shutting down entire countries, one almost feels nostalgic for yesterday, when all our troubles seemed so far away.

A railway employee talks on the phone inside an empty train compartment after railway services were shutdown by the authorities to limit the spread of the coronavirus disease (COVID-19) in Mumbai, March 23, 2020(REUTERS)
A railway employee talks on the phone inside an empty train compartment after railway services were shutdown by the authorities to limit the spread of the coronavirus disease (COVID-19) in Mumbai, March 23, 2020(REUTERS)

Phrases like “social multiplier” and “going viral” have taken more sinister undertones, to be replaced by social isolation and self-quarantine. These are no longer the luxury of the reclusive, but an enforced necessity for all.

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While the direct public health crisis caused by the coronavirus disease (Covid-19) and its resulting pressure on the health care system are all too visible, its economic impact will also follow a viral path.

First, economic activity is all about interaction among people. Trade and commerce thrive on these webs of interactions, which is why cities are more prosperous than villages. But, unfortunately, so do viral infections. So, in this situation, the higher the population density, and the wider the exposure to the outside world, the greater the risk of contagion. The denser the web of economic relationships — in cites as opposed to villages — the greater the impact will be.

Second, exactly like an infection, shocks to economic activity quickly spread across people through the channels of supply and demand. As some people stop going to work or reduce working hours because they are unwell or self-isolating, the supply of goods and services gets affected. In the short-run, panic buying of essentials aggravates this problem. Since most goods and services use a whole series of intermediate inputs, supply chains collapse like dominoes within and across countries, causing the initial shock to spread to a much wider group of people, like a contagion. Again, the more advanced or urbanised the region, the bigger the effect will be.

Third, someone’s supply shock is another person’s demand shock. Unless you are a salaried employee in a guaranteed job (a luxury enjoyed by at most 5% of the workforce in India) — if you cannot supply your good or service, your earnings go down. This will cause a drop in demand for other suppliers — an aftershock of the initial supply shock. This slowdown will be reinforced by the pervasive uncertainty that will cause people to delay purchases and save up for an even rainier day.

This, in turn, will delay economic recovery, and shops and businesses will struggle to stay afloat. They will start firing casual workers, and might even go bankrupt. The original disruption would have now spread through the body of the whole economy, and without a massive policy response, it will stay sick for a prolonged period.

The fact that two-thirds of the population live in rural areas has been one positive aspect as far as India is concerned, since the exposure to the virus has been more in urban areas, with a much higher inflow of people coming from abroad. Moreover, given the large population density in urban areas, the contagion spreads faster.

However, health infrastructure is poorer in rural areas and that is a major vulnerability in dealing with the crisis. Moreover, as the economic aftershock spreads through the economy, many of the migrant workers in the cities are heading back to their homes in rural areas, opening up a channel of contagion.

If we look at the economic impact of the crisis, urban areas will be more affected, as social distancing negatively affects certain types of consumption that tend to be more concentrated in urban areas, such as services, entertainment, and transportation. The resulting slowdown of economic activity will affect the informal sector, which employs 85% of the labour force and contributes to nearly half of the GDP. This is a sector where social isolation will be impossible to enforce because of poverty and the need to go out and eke out a living. Therefore, the economic aftershocks will spread to rural areas as well.

As we scramble to come up with a policy response to one of the biggest health care and economic crises in our history, we need to be mindful of these facts. The first priority of the government would be to shore up expenditure on public health to deal with the ongoing crisis, which includes recruitment and training of an army of primary health care workers.

This is also a perfect time to make an immediate direct income transfer to all those who do not have guaranteed jobs or file income taxes. Sounds outlandish? Well, the Donald Trump administration, no bastion of Left-leaning liberals, is in the process of discussing a stimulus plan that includes the proposal of $1,200 cash payments to all Americans.

As we wait for this invisible menace to slink back to the obscure lair from which it stealthily emerged, creating havoc and death across the globe, we are constantly reminded how interconnected our lives are, and how fragile these links are. We ignore the plight of others — especially the poorer and the underprivileged — at our own direct peril. Maybe that can be one positive lesson to come out of this unprecedented crisis — we sink or swim together. It may not be quite visible, like the menace we are dealing with, but we cannot afford to ignore it.

Maitreesh Ghatak is professor of Economics at the London School of Economics and director, Development Economics Programme, STICERD
The views expressed are personal
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