RBI: Covid-19 will widen output gap; GDP to shrink
Gains in May-jun reversed in Jul-aug due to reimposition of curbs
MUMBAI: The impact of the pandemic could cause a structural downshift on India’s potential output, with the gross domestic product (GDP) likely to contract in the second quarter as well, the Reserve Bank of India (RBI) said in its annual report released on Tuesday.
Potential output is essentially defined as what an economy can produce if it were operating at maximum sustainable employment. The central bank, which on previous occasions warned that the country’s GDP is set to contract, at least in the first half of the current year, said, unlike the 2008 financial crisis which was manmade, the recovery this time is likely to be different and path likely more gradual.
“The global crisis occurred after years of robust growth with macroeconomic stability; by contrast, Covid-19 has hit the economy after consecutive quarters of slowdown,” RBI said. “As the stimulus is unwound in a calibrated and non-disruptive manner in a post-pandemic scenario, deep-seated and wide-ranging structural reforms in factor and product markets, the financial sector, legal architecture, and in international competitiveness would be needed to regain potential output losses and return the economy to a path of strong and sustainable growth with macroeconomic and financial stability,” it said. RBI also noted that the contraction in economic activity is likely to continue into the second quarter. The improvement that was seen in May and June seems to have lost strength in July and August due to reimposition of lockdown restrictions. The annual report also said the pandemic is likely to inflict deep disfigurations on the world economy. The shape of the future is heavily contingent upon the evolving intensity, spread and duration of Covid-19 and the disdoor covery of the elusive vaccine. Post-covid, the overwhelming sense is that the world will not be the same again and a new normal could emerge, it said.
RBI also said government consumption will continue to support current economic demand while private consumption will drive economic recovery when the impact of Covid-19 reduces.
The central bank also said that banks have to abandon the policy of risk aversion that is affecting the flow of credit to the productive sectors of the economy. “Indian banking has to be liberated from the risk aversion that is impeding the flow of credit to the productive sectors of the economy and undermining the role of banks as the principal financial intermediaries in the economy,” it said in the report. The asset quality, capital adequacy and profitability of banks could be affected due to the deterioration in the macroeconomic and financial environment, it said. “Regulatory dispensations that the pandemic has necessitated in terms of the moratorium on loan instalments, deferment of interest payments and restructuring may also have implications for the financial health of banks unless they are closely monitored and judiciously used,” RBI said.