Keys from Keynes

When there are no takers for credit, Keynesian prescriptions on demand management hold the key

By Author  |  Kaustuva Barik  |  Published: 14th Jun 2020  12:14 amUpdated: 13th Jun 2020  11:26 pm
John Maynard Keynes

John Maynard Keynes must be turning in his grave to see the plight of a clueless government and helpless workers. Keynes died in 1946, but his ideas are as relevant today as they were during his life and times.

Keynes’ book, ‘The General Theory of Employment, Interest and Money’, published in 1936, marked the beginning of a new branch of economics, ie, macroeconomics, which deals with the behaviour of the economy as a whole. Keeping in view the radical nature of analysis, fundamentally different explanations, distinct remedial measures, and mass appeal of his ideas, we often use the term ‘Keynesian Revolution’. The popularity of his ideas can be gauged from the fact that by the 1960s, most economists in the world subscribed to Keynesian thought.

Great Depression

The Great Depression (1929-33) was a major setback to the world economy. The symptoms were pervasive and in multiple directions – systematic decline in output, income, wages and prices; unexpected rise in unemployment to the extent of 25%; crash in stock markets and ensuing loss of wealth; a gloomy uncertain environment with rising distrust; and growing protectionism across countries. The outcome was widespread poverty, hunger and mental agony.

The prevalent economic analysis around the Great Depression was on classical lines. Classical economists suggested minimal role of the government, laissez faire, and believed in the efficacy of market mechanism. According to them, if some commodity is produced, demand for it will come up automatically as the workers employed in production activities will receive income, which they will spend on goods and services. The classical approach is best summarised in the famous Say’s law that ‘supply creates its own demand’.

The classical economists, however, could not come up with any solution to the problems arising out of the Great Depression. Majority of people did not have money to spend; and those privileged few had money but did not spend – they expected prices to fall further. In the process, inventories started piling up; and factories did not see any reason to produce further.

Around that time, Keynes came up with a fresh set of ideas, opposite to the classical economists. He emphasised on aggregate demand. According to him, so long as there are unemployed resources in the economy, ‘demand will create its own supply’. Demand can come up through purchases by three economic agents, viz, households, private sector and government. During a recession, demand from households is subdued; household expenditure is usually low. Since the private sector moves by profit motive, and entrepreneurs see that business will not take off in the near future, they do not expand their business.

In such circumstances, the government should come forward and increase government expenditure. Increased government expenditure boosts demand for goods and services, and supply (production) comes up automatically. The government should ‘dig ditches and fill them up’, Keynes would say. The objective should be to put money in the hands of people, who will spend further on goods and services.

Covid-19 Craters

Covid-19 has created a difficult scenario for the government. The essential lockdown has also disrupted production activities, relocated labour and stifled demand for goods and services. The sequence of events, however, was unanticipated – for the workers, there was no scope of moving out, no job at workplace, no income in hand and no food at home.

Circumstances led to the mass movement of labour to their native places. What we witness is a retrograde step, a process of reverse migration, from dynamic urban growth centres to passive rural areas. The relocation of labour to rural areas has far more implications than mere loss of job and rise in unemployment.

First, reverse migration is from advanced States to less developed ones where employment opportunities are much less. The migrant workers have to compete with local labour, where the former are at a disadvantage. Second, most of the migrant workers are either semi-skilled or skilled; they worked in the informal sector or in micro, small scale and medium enterprises. Their adaptation to locally available agricultural jobs is far from easy.

Third, the migrant workers, in addition to sustaining themselves in urban areas, were a constant source of remittances to their family members in rural areas. In the process, maybe in a small way, they were contributing to lessening of the rural-urban divide. Fourth, the migrant workers were a source of cheap labour to the urban areas. The urban areas have to bear the brunt of reverse migration in terms of shortages of labour, rise in the cost of living, and decline in the production of goods and services.

The government has now started the unlocking process in a phased manner. The ground reality, however, is that millions of people still have no job, no income, and no money to spend. Needless to mention, a large section of people are reeling under despair, depression and distress. At this juncture, one looks for policy alternatives, and policy recommendations of Keynes come in handy.

Reigniting Economy

The Indian economy has been in a delicate condition for quite some years now. Growth figures, released recently, indicate that the increase in GDP during 2019-20 was 4.2%, the lowest in the past 11 years. In the last quarter (January-March) of 2019-20, GDP growth was a meagre 3.1%. Such lacklustre performance of the Indian economy during the last financial year is despite the steps such as interest rate cuts, corporate tax rate cuts and bank capitalisation taken by the government to revive the economy.

The revival of the Indian economy after the lockdown is a major challenge. The scenario appears somewhat to be a re-run of the Great Depression. Additionally, there is a fear among people to venture out. In such circumstances, initiating a work environment and maintaining the supply chain is quite difficult. A far more daunting task, however, is to create an environment where people spend money – that will generate demand for goods and services.

The economy today, of course, is much more complex than what it was a century ago. Finance occupies a prime place now. Foreign funds in the domestic markets matter a lot – flight of foreign funds could spell disaster for the foreign exchange market. The constitutional framework of the Indian economy adds further constraints on the manoeuvrability of the government, particularly the Fiscal Responsibility and Budget Management Act. There is also a general perception that Indian consumers do not spend enough these days. All these call for Keynesian prescriptions on demand management.

Fiscal Stimulus

In a major move, the government last month announced an economic stimulus package of Rs 20.97 lakh crore. On the face value, it appears to be a very large amount but it has evoked criticism from several quarters on several grounds. It is said to be tilted towards the supply-side, providing incentives to producers to avail credit and produce more; ignoring the demand management aspect. Another major criticism is that the actual outgo from the Central government budget is minuscule – around Rs 1.97 lakh crore or just 0.8% of the GDP. The major chunk of the stimulus package is through the Reserve Bank of India to boost liquidity and credit growth in the economy.

The package appears to be the continuation of the policy being followed in the past few years – manage liquidity in the economy. A problem is that credit growth in the Indian economy is comparatively low in recent years – there are no takers for credit. Making provision for liquidity is necessary but not sufficient by itself. The private sector will not borrow from banks for further investment unless it see a rise in the demand for goods and services it intends to produce out of the borrowed money. You can take the horse to the pond, but cannot make it drink. In such circumstances, banking only on supply-side measures is unlikely to provide desired results.

For the revival of the Indian economy, there is a need to boost aggregate demand. Immediate employment generation on a massive scale through government initiative appears to be the most viable option to feed the masses. This is expected to protect the poor from further misery and save society from potential disorder. In this respect, a much bigger role should be envisaged for MGNREGA, which assures employment to people in rural areas. Apart from strengthening rural infrastructure, MGNREGA will help migrant workers sustain themselves.

Keynes prescribed an activist role for the government, which is very much required in the present circumstances. According to Keynes, “economists set themselves too easy, too useless a task, if in tempestuous seasons they can only tell us, that when the storm is long past, the ocean is flat again”.

As the situation stands today, labour is not available where production takes place; and employment is not available where migrant labour is re-settled. The need of the hour is to reinforce confidence in labour so that they migrate again to their previous location; or to make infrastructural facilities available in backward regions so that the MSME shifts there. Both the processes, however, are wishful thinking, that cannot be attained in the short run; may be possible in the long run! And Keynes would say, “This long run is a misleading guide to current affairs. In the long run, we are all dead.”

(The author is Professor of Economics, Indira Gandhi National Open University, New Delhi)

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