The
ongoing financial and economic crisis has had at least
one significant impact on the world of ideas: it has
brought back to the forefront the recognition of the
crucial role of government expenditure in stabilising
economies and averting or mitigating recessions. It
is true that the continued opposition of some leaders,
such as Angela Merkel in Germany or some Republicans
in the US Congress, suggests that it may not be true
to argue that ''we are all Keynesians now''. Nevertheless,
the international acceptance of some of Keynes’ more
important propositions has not been so widespread for
at least three decades. This in turn has meant that
many arguments in favour of public spending that were
jettisoned or simply disregarded until quite recently,
are now back in vogue. And so at one level, proponents
of such spending have less to prove.
One important Keynesian notion
which has great applicability in the current context
is that of the liquidity trap, in which banks are unwilling
to lend to all but the most preferred and ''safe'' borrowers,
but such borrowers are in turn unwilling to borrow because
of prevailing uncertainties. The financial crisis spawned
a ''credit crunch'', not only in the US where the crisis
first broke, but also across the world, even in countries
that at first had appeared to be relatively insulated.
A credit crunch is associated with fear and market uncertainty,
when expectations are bullish and private agents (whether
they are investors or consumers) are unwilling to take
risks. This means they tend to cut down on their own
spending, and prefer to save. This paradoxically has
the opposite effect of what is intended: since everyone
spends less, economic activity slows down and reductions
in output and employment follow. So the depressed expectations
become self-fulfilling, and create a downward spiral
or at the least, an unemployment equilibrium.
In such situations, monetary policy typically has little
effect in reviving economies. Reductions in interest
rate or easing borrowing conditions for banks cannot
be indulged in beyond a point (the interest rate cannot
go lower than zero, for example) and in any case do
not ensure that banks who in the phase of what Kindleberger
called ''revulsion'' will actually start lending normally.
So the clear requirement is for fiscal policy, for the
government to maintain an expansionary fiscal stance
that will pull the economy out of the downswing. Fiscal
deficits in such a context are not only acceptable but
even necessary and essential to ensure economic recovery.
However, fiscal deficits too can come about in various
ways. One option is to provide tax cuts in the hope
that this will reduce prices and thereby cause increased
private spending. This is indeed the route that several
governments, including in India, have chosen at least
to some extent. But another insight of Keynes was that
tax cuts too will have less of an impact than direct
spending because of the depressed state of expectations.
Japan in the 1990s faced a prolonged recession: the
government in continuously provided both tax cuts and
lower interest rates, but in a period of falling economic
activity and very negative expectations of the future,
people simply saved the money instead of increasing
their own private spending. Similarly, tax cuts that
have been recently applied in several developed and
developing countries have had very limited effects in
terms of actually increasing aggregate demand.
Another way that fiscal deficits are likely to increase
in the current context is through the government having
to provide large bailouts to financial firms and other
corporations facing threat of closure or other very
serious problems. These may be essential (or at least
may be seen to be essential) to save the system as a
whole from collapse, though there are always complex
and nuanced judgements to be made about which firm deserves
how much bailout, and what the implications would be
if it is not bailed out. The implications are obvious
for the effects of crony capitalism and differential
treatment of firms - and there are other broader income
distribution effects as well.
But Keynes and Kalecki, who both pointed out the criticality
of fiscal policy in capitalism, were essentially talking
about direct public expenditure, not resources provided
indirectly as tax cuts or bailouts. It is important
to note that they were not concerned with the pattern
of expenditure, and whether it is ''productive'' or unproductive''.
In fact Keynes famously argued that even completely
unproductive expenditure ''hiring men to dig holes and
fill them up again'' would serve the required purpose
of reviving demand in a situation of excess capacity
and unutilised resources. And the operation of the multiplier
- the process by which each bout of spending generates
additional spending of those whose incomes increase
in the first round - ensures that this initial unproductive
spending raises output and employment over time.
But we now know that the pattern of spending does indeed
make a difference, especially in developing countries
where resources are constrained in the medium term even
if not in the short run. Obviously, public expenditure
need not be completely wasteful: there are huge opportunities
and avenues for productive investment and expenditure
because of the huge development gaps that exist. But
there is the further point that the value of the multiplier
itself may not be a given, but may depend upon the pattern
of expenditure. For example, public spending on employment
schemes, and on health and education, not only generates
more direct employment but also more indirect employment
because those who are newly employed by this are more
likely to consume a higher proportion of their incomes.
Conversely, simply raising the pay of middle class and
professional workers whose requirement for essential
consumption forms a smaller part of their income, need
not lead to much increase in consumption but may simply
translate into greater saving, leading to a lower value
of the multiplier.
What this means is that, even in a period when fiscal
expansion is seen as necessary for economic regeneration,
the direction of such public spending matters greatly.
Fiscal policy that provides more wage income directly
to unskilled workers and in rural areas is likely to
be much more effective in increasing aggregate incomes
than other forms of public spending, because of the
higher value of the multiplier in such expenditure.
And therefore, particularly in the current situation
of global economic crisis and national economic slowdown,
expenditure on the NREGS assumes very great significance.
The point that is being made here is that ''inclusive''
public spending, such as in the NREGS, is not only desirable
from a social or welfare perspective - it also provides
very direct economic benefits because it is much more
effective in dealing with the economic situations of
credit crunch and aggregate demand slowdown. Because
wage employment schemes tend to be self-targeting in
terms of increasing the incomes of those who are most
likely to spend their income rather than save it, they
necessarily imply higher multiplier effects that make
the public expenditure more effective in reviving output
and indirect employment. Therefore the NREGS is about
more than equity; it is also a macroeconomic weapon
against slump, and this is at least partly so because
it does generate more equity.
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