Bank mergers will not bring the economy out of this recession: Economist Prabhat Patnaik

12 September 2019
Shahid Tantray for The Caravan
Shahid Tantray for The Caravan

In the budget unveiled in July, the finance minister Nirmala Sitharaman ambitiously claimed that India’s economy would hit $5 trillion by 2025. In the weeks that followed, the Central Statistics Office revealed that the gross domestic product growth rate for the April–June quarter fell to a six-year low of five percent; the Reserve Bank of India cleared a surplus transfer of Rs 1.76 lakh crore to the union government; and the government announced the merger of ten public-sector banks into four combinations. These announcements came against the backdrop of the precarious state of the Indian economy. The country is witnessing an economic slowdown that has spread from the auto sector to other segments, the unemployment rate is at a 45-year high and the tax collections from the previous fiscal year presented an estimated shortfall of Rs 1.67 lakh crore from the revenue expected by the Bharatiya Janata Party government. The going seems difficult for both Sitharaman and the Indian economy.

Kaushal Shroff, a staff writer at The Caravan, spoke to Prabhat Patnaik, an economist and former economics professor at the Jawaharlal Nehru University, to make sense of the economic crisis. Patnaik is a known critic of India’s policy on fiscal deficit—the difference between the government’s total revenue and its total expenditure. Indian economic policy prescribes a fiscal-deficit target of up to 3.3 percent of the gross domestic product, which leaves little elbow room for the government to incur large public spending. In addition to explaining his opposition to it, Patnaik explained the circumstances that led to the current state of the economy, and why the government’s response to it will be ineffective. “The BJP government does not have a way of tackling this crisis, which is going to get aggravated,” Patnaik said.

Kaushal Shroff: The GDP figures show that the economy posted a dismal five-percent growth rate for the April–June quarter. At the same time, the government made an effort to retard the impact of these figures by declaring bigbank mergers. How should we read these two announcements?
Prabhat Patnaik: If the impression is given that the bank merger is somehow going to bring the economy out of this depression or this recession, it has no basis. Bank mergers are not going to make one iota of difference to this crisis. What will bank mergers do? It will spread overheads over some large amount of business and it might reduce some transaction costs—all of which would ultimately help, at best, in reducing the unit cost for the banking services. The government is hoping that would actually enable the banks to reduce the interest rates they charge.

Now, the point is that the interest rates themselves are not very effective in increasing larger expenditure. That is because the interest rate is supposed to help primarily by enlarging the level of investment. In such a situation, where demand is not growing in the economy, even if the government brings down the interest rate, it is not going to make any difference to the level of investment in the economy. These investments are substantially interest inelastic [which means that investments do not change depending on the interest rate]. As a result, the idea that actually if you lower the interest rate, then expenditures will go up, is a flawed idea.

In the United States, for instance, they brought down the interest rates to virtually zero but nonetheless it did not have much of an impact. Interest-rate policy is always blunt anyway and in this particular situation, it is not going to help at all. As a result, the BJP government does not have a way of tackling this crisis, which is going to get aggravated.

Kaushal Shroff is a staff writer at The Caravan.

Keywords: economic crisis recession economy Bharatiya Janata Party GDP
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