Lack of fiscal support could stoke inequality

Lack of fiscal support could stoke inequality

Context- India’s low level of fiscal spending could leave behind other problem and leads to inequality.

India has stood out in three distinct ways.

  • Firstly, India seems to have broken the link between rising levels of mobility and COVID-19 cases. As of now the fear of increased mobility around the festive season stoking cases has not come to bear and the fatality rate continues to fall as the recovery rate rises.
  • Secondly, India has seen amongst the smallest fiscal support packages globally, government expenditure has not grown in the year so far.
  • Third, inflation is now a big problem, CPI inflation has been outside the 2-6% tolerance band for seven months in a row.

How small fiscal support link with inequality?

  1. The government’s fiscal packages were far too modest and indirect to achieve much, some part was not covered (like the urban poor), and overall outlays were small.
  2. Rise in inequality between large and small firms –Large listed firms saw a larger rise in profits and the smaller listed firms did not do as well.
  • A combination of cost-cutting, lower interest rate environment, access to buoyant capital markets, and formalization of demand could also be a driver of the rise in individual-level inequality.
  • Impacted larger number of people– small firms are more labour-intensive than large firms. Data shows that small firms have cut staff costs by much more than large firms.
  1. Widening wealth gap– The coronavirus pandemic has dealt a huge blow to India’s middle and low-income groups. This is likely to further widen the wealth gap between India’s rich and poor.
  • For instance– Expensive passenger vehicle sales doing better than two-wheeler sales.

What are the negatives of rising inequality?

  1. Inequality could elevate inflation- People with higher incomes can offset rising inflation with rising incomes. Sadly, though, income inequality and rising inflation can entrap lower-income households in poverty.
  • For example– India has had a troubled past with services inflation. once it takes a stronghold (for instance, in 2011), it remains elevated for a prolonged period (it averaged 7.7% in the 2011-13 period).

There are three possible reasons that services inflation rises quickly in 2021-

  1. Inequality could stroke prices– The large firms and their employees do relatively well through this period, they are likely to demand more services, stoking services inflation.
  2. Pent up service demand– As a vaccine comes into play, there could be a wave of pent-up (high-touch) services demand.
  3. The service providers did not do the regular annual price reset in 2020, and may do it jointly for two years, once demand picks up.

What need to be done?

  1. Inflation control could be the main task cut out for policymakers in 2021.
  2. RBI have to take steps to gradually drain the excess liquidity in the banking sector, provide a floor for short end rates and finally narrow the policy rate corridor by raising the reverse repo rate.
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