Q) “Deficit monetization could be a risky affair for the economy to handle in the current COVID-19 situation” Critically analyse?
Answer:
The lockdown due to COVID-19 pandemic has severely impacted the economic activities in the country. This in turn has had a worse influence on government’s revenue. In these circumstances of increased fiscal deficit, deficit monetization is being suggested as an option to alleviate the current economic crisis.
Deficit monetization refers to RBI printing more money i.e. RBI buying government’s securities from primary market. The Fiscal Responsibility and Budget Management (FRBM) Act prohibits this in normal circumstances as it is associated with a number of disadvantages and could be risky for the economy:
1) Excess supply of money may trigger inflation.
2) It could lead to depreciation of Rupee which would be harmful for an energy importing country like India.
3) Easy supply of money may also lead to unproductive spending by government.
4) It also impacts credibility of the government as the government is seen as not being able to take care of its fiscal needs at its own.
5) It reduces RBI’s control over money supply and makes RBI’s monetary policy subordinate to financial policy of the government.
At the same time, supporters of deficit monetization argue that it could lead to following advantages:
1) Provide immediate funds to deal with the COVID-19 pandemic
2) Due to depreciation of Rupee our export will increase because exported goods are cheap in price.
3) It could also control rising bond yield which is making the government’s borrowing expensive.
Looking at both advantages and disadvantages, it is clear the deficit monetization should be a measure of last resort. If government is able to borrow money through bonds and if the bond yields are unsustainably high, better it should continue borrowing from market.