On Friday, July 24, 2020, Raghuram Rajan joined Princeton’s Bendheim Center for Finance COVID-19 webinar series.
Rajan is Professor of Finance at Chicago Booth, a former Governor of the Reserve Bank of India, and a former Chief Economist of the IMF.
Virus containment via a strict, severe national lockdown was less effective in India than other countries. Despite a strict national lockdown in India, which began in March and relaxed slightly 3-4 months later, cases rose sharply and exponentially.
There are a plurality of reasons infections rose despite lockdowns, including weak safety nets and the fact that it’s difficult to have true social distancing in many parts of India. Rajan also notes that some people in India have a different attitude toward social distancing, and that authorities perhaps sent the wrong signal to citizens early on by suggesting that everything was under control (ensuring citizens that infection rates were low and that foreign travelers had been banned). Rajan does not believe that the lower quality of medical facilities explains the rise. Other countries with underdeveloped health systems have fared better.
India’s inherent challenges in fighting the virus were exacerbated by bureaucratic mismanagement. The government could have done a better job preparing citizens and businesses for the lockdown. The lockdown was also too stringent to be sustainable because, in comparison with industrialized nations, fewer jobs in India can be done at home. Finally, with no discernible break in growth of nationwide infections, the lockdown became more difficult to continue. Weekly death rates continue to increase.
The virus has not spared emerging markets from economic damage. Even where we see lower death rates, emerging economies have suffered many of the economic consequences of the virus. As Rajiv Bajaj says, India “bent the wrong curve.”
While central banks in emerging markets have shown a willingness to expand their balance sheets, households, small businesses, and even large corporations need more relief than has been offered. Rajan says relief, financed in the short term by central banks, might contribute much more to the economy than the usual Keynesian multipliers. Advanced economies had much larger fiscal expansions—about 22% of GDP if one includes guarantees. In emerging markets, fiscal expansions account for on average about 5% of GDP. Of course, India entered the crisis with a large fiscal deficit (about 9% of GDP) and slow growth, making fiscal expansion as a response to the virus more difficult.
This is not the typical emerging market crisis, and the current emerging market response to the virus follows the wrong playbook. Emerging economies can’t ignore fiscal sustainability, but they should be spending what is necessary for relief to preserve growth potential. They also need to enhance their commitment to fiscal transparency over the medium term, which they could do by enacting a debt target or establishing an independent fiscal commission. Rajan notes the government might be reluctant to do some of this because independent institutions make it harder for the government to control the narrative.
If emerging economies can’t provide relief, they should at least focus on repair—unfortunately this isn’t happening in India. While private sector banks in India are raising capital, the banking sector in India is dominated by public sector banks. Further, regulators are urging firms to forbear and providing little capacity for renegotiating debt via bankruptcy. The result of this will be a hit on growth and a closure of viable firms. Ultimately, fiscal restraint and financial sector constraints will make recovery led by domestic demand very difficult.