On March 11, WHO declared Covid-19 a global pandemic—an indication of its possible contagion. This created global pandemonium. As a result, financial markets crashed, production of goods and services worldwide shut down, large-scale corporate bankruptcies were certain and human liberty was curtailed with forced lockdowns.
Nineteenth century economist Frederic Bastiat helped policymakers understand the difference between the obvious and “seen” costs and the more insidious “unseen” costs. It is simple and obvious to see the health costs associated with the virus—minute by minute counts are on TV. But the economic and social costs of a global slowdown are not simple and obvious.
And in the case of a fragile economy like India, it is critical that policymakers understand that these unseen costs could be of a magnitude many times higher than the more obvious costs. The country has never faced an economic crisis of this magnitude before. In 2008, the government’s finances were healthy; today, government deficits are close to 6 percent of GDP. In 2008, the banking system was sound; today, 10 percent of all loans are bad loans. In 2008, corporate India had significant cash balances from five years of healthy profits; today, corporate profits are 3 percent of GDP, the lowest in 17 years. In 2008, aggregate demand was strong and supportive of economic growth; today, even before the virus crisis, aggregate demand was at a 20-year low. In 2008, India’s exports were expanding rapidly; today, they have declined (as a percent of GDP) for eight years in a row.
The national lockdown will affect India more than any other major economy because it was in a precarious situation even before the crisis. Additionally, India’s economy is not structurally suited for a V-shaped recovery. The financial system is just not strong enough to provide the necessary liquidity required to jump-start the economy.
Here are some of the unseen economic costs so that Indian policymakers can rationally understand the magnitude of them.
- The best-case estimate is that more than 40 million people will lose their jobs. How many of them will never recover their careers? What about their families, their children, their hopes and aspirations? Millions will lose their life savings and be forced to use their retirement funds to survive. The long-term costs of this disruption to aggregate savings and investment will be enormous.
- Losing jobs will be accompanied by significant mental illnesses. There will be issues related to loss of self-worth, depression, drug and alcohol abuse and suicides. How many people will lose their homes, divorce their spouses or suffer abuse? These unseen social costs will be substantial and could be a massive long-term drain on the country’s productivity.
- How many businesses will shut their doors permanently? The average MSME company in India has less than 15 days of cash reserves. Many of them will pull their shutters down permanently, and once a business shuts down, it is difficult to restart it. We know from historical experiences of prolonged economic disruptions (Argentina, Chile, Venezuela) that as many as 50 percent of MSME businesses could shut down permanently. The loss to India’s GDP, tax revenues, employment and supply chains will be significant and prolonged. A two-month shutdown (16 percent of a year’s production lost) could mean anywhere from a minimum of 5 percent contraction in GDP to up to 20 percent.
- How many vital service businesses will vanish, putting upward price pressure on the services that remain? Massive inflationary pressures will be felt on all goods as supply chains become compromised and production facilities remain locked. Combine too few goods with infusion of liquidity from the fiscal and monetary stimulus that would be required and we could be looking at an inflation scenario upwards of 10 percent. And there is no disease that hurts the poor disproportionately more than inflation.
- How will India’s weak banking system cope with the inevitable rise in bankruptcies? Most developed countries have strong and stable financial systems that are able to provide liquidity, but India doesn’t. Almost 70 percent of India’s capital market is still owned, controlled and operated by the government through its control of the banking sector. The weaknesses in India’s financial system will be exposed by this crisis.
- How many new businesses will fail to launch? This will hurt innovation and the country’s long-term economic growth. Investors and entrepreneurs say this is easily the worst crisis for startups in history and as many as 30 percent of existing start-ups could fold by next month.
- India’s exports will take a major hit. Already suffering from six years of policy neglect and regulatory overkill, this sector is at a crucial juncture. And while Indian factories are shut, Chinese factories are ramping up production capacity and rolling out products that the world will soon demand. Over the next 6-8 months, while export businesses in India will be pulling down their shutters, goods from their competitors in China, Bangladesh and Vietnam will be taking a market share from Indian companies. This is already evident in the pharmaceutical industry and will soon follow in other critical export industries.
- India’s credit rating will most certainly be downgraded as the economy goes into recession. This will increase the rate at which Indian companies borrow money overseas—the sovereign credit rating sets an upper boundary on all corporate ratings. Combine this with a rapidly declining rupee, which puts additional pressure on overseas borrowing, and Indian companies are staring at a severe liquidity crisis.
- Will India’s social fabric, already wearing thin from politics, tear apart? While the upper and middle classes may be able to ride the lockdown, the poor will surely suffer disproportionately. As a result, deeply embedded social inequalities will likely boil to the surface and create social tensions. Estimates are that up to 80 percent of India’s employment is daily-wage labour, and for these people, no work means no money and no food. And while the government has announced free rations, it is incomprehensible that India’s public distribution system, which even under the best of circumstances is grossly inefficient, will be able to deliver essential supplies to millions of poor and starving families across the country. Tens of thousands could suffer from starvation and malnutrition and severely test the country’s welfare system in years to come.
- Will crime spike as millions look for food and vent their social frustrations? It is not hard to imagine that given the choice between certain death from starvation and uncertain exposure to a virus, the vast majority of the poor will choose to come out in droves looking for food. This could present a serious law and order situation.
These are not rhetorical questions. They become relevant every time a country faces state-imposed curtailment on people’s liberties. Venezuela is a good example of a country that has been pushed back 50 years by economic restrictions. Before that, Zimbabwe saw hyper-inflation of almost 80 billion percent a year as a result of high national debt, declines in economic output and exports, price controls and lack of confidence in the government, the economy and social life.
As we face this unknown enemy, let us not act like the fabled Don Quixote. Let us not expose the people of this country to a certain economic calamity by attempting to slay an elusive virus. The Indian economy, which was already tottering near recessionary levels before the virus, is now certainly in a recession. Like a slow, big ship that takes forever to turn around, it may be five to six years before India’s battered economy returns to normal. Keeping the lockdown going will only extend the timeline to recovery.
We need to wrap our collective heads around a fundamental truth—that we are in the early stages of an economic pandemic that will be far worse than the Covid-19 one in terms of human misery. The Indian people cannot just sit at home and wait for aid from funds the government does not have. Locking 1.3 billion people because 4,000 have been infected is a flawed idea. It is time to get the people working and the economy moving again before the “unseen” costs consume the nation.
—The writer is a financial economist and founder, contractwithindia.com
Lead picture: UNI