Our Government seems to believe that providing more goodies to the rich such as in making highways and airports will help break the present recession. The reduction in purchasing power of the people due to recession will be made up by the increased demand from Government expenditures. The cement that lies unsold due to less demand from people will be bought out by the National Highways Authority of India to make the highways. My assessment is that this policy will not deliver because there is no provision for generating demand from the ground level. Investment in highways will be fruitful only if truck-owners are ready to pay the toll. Trucks will not ply on the highways in absence of demand from the people and these investments will become white elephants.
The policy of breaking recession by increasing investment, moreover, can deliver only in the short run. The reader will appreciate a simple fact. No country would ever go into a recession if it were possible to break a recession merely by increasing government expenditures. Governments would simply start their printing presses with the onset of recession just as the homemaker draws water from the well as soon as the tap goes dry. But one cannot continue to draw water from a well for years continually. The well will soon go dry in absence of recharge brought by the rains. Similarly, there is a limit to breaking recession by increase in government expenditures. The burden of notes printed today falls on the people tomorrow just as the water drawn from the well today has to be recharged tomorrow.
Say, a country is producing 100 bags of cement in a year. The consumers buy this in normal circumstances. These bags remain unsold with the onset of recession because the consumers stash away their monies in the safe box instead of making a house. The unsold cement can be bought by the National Highways Authority. The recession can be broken in this way. But the problem becomes worse in the next cycle.
The hidden demand from the consumers reappears with the end of recession. The money in circulation increases. Purchases by the Highways Authority and the consumers start chasing the same 100 bags of cement. This leads to increase in price of cement and a parallel depreciation of the currency. The rupee becomes worth less. The government then has to make a steep cut in its expenditures to restore confidence in the economy. In this way, an increase in government expenditures today has to be followed by an equal reduction in government expenditures tomorrow. Therefore, the strategy of breaking recession by increasing government expenditures works only in the short run. Government expenditures are like a loan taken against future earnings. An employee takes loan from his employer if he falls sick. He repays the loan once he is well and back to work. Similarly, government can ?cure? the disease of recession by generating demand immediately. But the government has to repay these monies once the economy is back in health.
It is a good policy to take a loan during sickness if a employee is suffering from a temporary debilitation. But it does not pay to take a loan for treatment of a terminal disease like cancer. The patient dies and the family looses the provident fund and gratuity. Similarly, the government may cure a recession by increase in government expenditures if the economy is fundamentally in good shape and suffering from a short run disease like cough and cold. It does not pay to cure recession by increase in government expenditures if the economy is caught in a structural long term crisis like terminal cancer.
It is necessary to determine whether the present recession is a short term problem like cough and cold, or a long term problem like terminal cancer. It seems to me the present recession is of the latter type. The present recession is due to slowdown in new technological innovations in the developed countries. The last century has seen revolutionary inventions like internal combustion engines, nuclear power, jet airplanes, personal computer and internet. These countries became rich by selling these inventions to us at high prices. We became poor by purchasing these inventions at the same high prices. The global demand was dependent on generation of new inventions that would give the developed countries newer products to sell to rest of the world at high prices. Such inventions appear to have receded in the present times. The developed countries are no longer able to sell nuclear power stations to us at high prices hence they have less income. There is, therefore, less demand from the developed countries. These countries accounted for about three-fourths of the global demand. The decline in their economies has assumed global proportions. This is the root cause of the present recession. The absence of inventions is like terminal cancer. My study shows that a dramatic invention like say, a personal helicopter, is not in the making. Hence the decline of the developed countries is likely to persist in the long run. The present recession is likely to become worse.
The policy of breaking recession by increasing government expenditures will not deliver in these circumstances. The government expenditures will appear to deliver for a short while. The recession will seem to end for a moment. But the next cycle will be worse. Continued decline in global demand will come along with necessity to repay the loans taken in the past by the government.
The need today is to generate long term internal demand to compensate for the loss of long term external demand. We have to find a policy that generates new cycle of supply and demand just like digging a well leads to growing and eating of vegetables and creates new demand again and again. This can be done by creating demand in the hands of our people instead of spending on highways that give benefits to the rich who save more and consume less. The way is to make economic policies that generate employment for the poor. Providing protection to handlooms, for example, would place more money in the hands of the weavers. This will lead to more demand for goods like chappals and refrigerators in the shops. Trucks will be required to transport these goods. Then making highways will be beneficial.
Making the highways directly in the very beginning will not deliver the same beneficial result. The absence of purchasing power in the hands of the common man will make these investments a waste. Giving higher salaries to government employees, as being done by the Government, will also not help in breaking recession because these well-off employees will only put more money in the banks rather than spend it. The trick lies in giving money to the people who can spend. It is unfortunate that the UPA Government has no interest in increasing purchasing power of the common man. Schemes like the Rojgar Guarantee are good but grossly inadequate for the present times. Implementation of truly pro-poor policies is the great challenge of 2009.
(The author a well-known economist can be contacted at [email protected])