A shrinking GDP could curtail govt’s ability to help the poor
NEWDELHI: On May 22, Reserve Bank of India (RBI) governor Shaktikanta Das said the Covid-19 pandemic will likely lead to a contraction in India’s gross domestic product (GDP) in financial year 2020-21.
What does a contraction in GDP entail for an economy? Statistically speaking, it means the 2020-21 GDP will be less than what it was in 2019-20. However, its real-life implications depend on sector-wise and distributive impact of the contraction. This will be the most widespread contraction India has ever seen. The previous four instances of contraction in GDP since 1951-52 were primarily a result of disruption in the agriculture sector. Most private forecasters expect the reverse to happen this time. With agriculture’s share in the economy down from the 1980s, contraction is likely to affect a much larger part of the economy this time.
Secondly, the fact that there was no contraction earlier does not mean that incomes were growing in India. Even when GDP growth was positive, there was a significant section reporting a decline in incomes in the RBI’S Consumer Confidence Survey (CCS). This share increased during the recent economic slowdown and will increase at a faster rate now. A contraction is also bound to lead to massive job losses, which will necessitate the use of past savings. Fourth, India’s direct tax collections depend on incomes of the richest. A big fall in their incomes will curtail the ability of the government to help the poor.
On May 22, Reserve Bank of India (RBI) governor Shaktikanta Das said the Covid-19 pandemic will likely lead to a contraction in India’s gross domestic product (GDP) in the financial year 2020-21. Just about a month ago, the International Monetary Fund had projected India’s GDP growth in the year to be 1.9%.
Private forecasters have been projecting a contraction for some time.
What does a contraction in GDP entail for an economy? Statistically speaking, it means that the 2020-21 GDP will be less than what it was in 2019-20. This does not tell us much about its real-life implications which depend on the sector-wise and distributive impact of the contraction. Here are four interesting aspects of the current contraction: This will be the most widespread contraction India has
ever seen: GDP is a sum of income generated in various sectors of the economy. India has seen four instances of contraction in GDP since 1951-52, the earliest period for which GDP data is available in the 2004-05 GDP series. These took place in the years 1957-58, 1965-66, 1972-73 and 1979-80.
As has also been pointed out in a research note by Crisil, these slowdowns were primarily a result of disruption in the agriculture sector.
In three out of these four years, the reduction in agricultural GDP was greater than the overall reduction in GDP, meaning the non-farm economy did not contract. (See Chart 1)
Most private forecasters expect the reverse to happen this time. It is the non-farm sector which will see a contraction, while agriculture is likely to grow. The share of the non-farm
sector in both output and employment is significantly greater today than what it was when India faced the earlier GDP contractions.
In 1980, agriculture had a share of about one-third in total valueadded and more than two-thirds in employment. This has come down to less than under 15% and just above 40% respectively. This means that the current contraction will affect a much larger part of the economy, especially in terms of income lost. The contraction will only
exacerbate the situation: The fact that there was no contraction earlier does not mean that incomes were growing in India. There are gainers and losers in any modern economy.
Statistics from the RBI’S Consumer Confidence Survey (CCS) are a good way to understand this.
The CCS asks a question on current perception of income with three options: it has increased, remained the same or decreased. To be sure, the CCS only measures urban sentiment. There is reason to believe that rural areas were no better. Real rural wages have been declining in the last few quarters.
Even when GDP growth was positive, there was a significant section reporting a decline in incomes in the RBI survey. This share increased during the recent economic slowdown. It will increase at a much faster rate now. (See Chart 2) Many people will dip into savings: A contraction in GDP is bound to lead to massive job losses and disruption of businesses. This will necessitate the
EXPERTS SAY NON-FARM SECTOR IS THE MOST LIKELY TO SEE A SLUMP; HOUSEHOLD SAVINGS MAY DIP TO FINANCE PRESENT CONSUMPTION
use of past savings to finance present consumption.
Things have deteriorated on this front. The household savings rate has gone down in the last decade in India.
From 23.6% in 2011-12, it came down to 18.2% in 2018-19, the latest period for which data is available. This means that households have already been dipping into their savings and will have less of a buffer for a rainy day.
A 2013 National Sample Survey Office report (latest available data) shows another grim statistic. Almost 90% of household assets in India are held in the form of either land or buildings. The real estate market is in a bear phase with the current economic disruption. Anybody who is trying to dispose of their properties will find it difficult to get a good price immediately. (See Chart 3) Revenue performance will depend on fortunes of a fraction of the economy: The Indian economy is characterized by massive inequality. It has more than 400 million workers. Just over 50 million filed income tax returns (ITRS) in Assessment Year (AY) 2018-19.
The gross total income reported by those who filed ITRS shows that these 50 million workers, just 12.5% of the total workforce, had a share of 30% in India’s GDP. Among the 50 million who filed ITRS, income reported by the top 5% had a share of 15% in India’s GDP. This also means that India’s direct tax collections will depend significantly on what happens to the incomes of the richest.
An analysis of income tax data shows that the top 5% tax payers paid almost 90% of income tax in AY 2018-19. This statistic captures the dilemma before the government.
While the poorest are the neediest during a contraction, a big fall in the incomes of the richest will curtail the ability of the government to help the poor. (See Chart 4)