Can printing money save the Covid-hit economy ?

Governments turn to printing money to increase liquidity in the economy. Printing money can ensure that the money reaches the masses which can then lead to higher spending. This provides an opportunity for the government to boost overall demand at the time when private demand has fallen — like it has today. In economic terms, it is called monetising the fiscal deficit. In simple terms, In simple terms, monetising fiscal deficit means the RBI purchases government debt directly rather than the government borrowing from the markets by selling bonds. In turn, the central bank prints more currency to finance this debt.

This enables the government to have the cash to spend and alleviate the stress in the economy — via direct benefit transfers to the poor or starting construction of a hospital or providing wage subsidy to workers of small and medium enterprises etc.

Has India ever done it in the past?

Historically, India’s deficits were automatically monetised until 1997. However, direct monetisation of government deficit has its downsides like higher inflation which is major concern. Experts say that printing more money doesn’t increase economic output – it only increases the amount of cash circulating in the economy. If more money is printed, consumers are able to demand more goods. But if firms have still the same amount of goods, they will respond by putting up the prices. In 1994, Manmohan Singh (then Finance Minister), decided to end this facility by 1997. Former RBI Governor D Subbarao had also cautioned against it saying , “since inflation is revealed with a lag, it is often too late before governments realise they have over-borrowed. Higher inflation and higher government debt provide grounds for macroeconomic instability.”

What does the FRBM Act say?

The FRBM Act was enacted during the tenure of the Atal Bihari Vajpayee government as the final step towards phasing out monetisation of debt. The Act barred the RBI from participating in primary issuances of government securities from 1 April 2006. However, the Act provided an escape clause and said the RBI could subscribe to the primary issue of central government securities in case the government exceeds the fiscal deficit target on “grounds of national security, act of war, national calamity, collapse of agriculture severely affecting farm output and incomes, structural reforms in the economy with unanticipated fiscal implications, decline in real output growth of a quarter by at least three per cent points below its average of the previous four quarters”

Finance Minister Nirmala Sitharaman had invoked this escape clause much before the Covid-19 pandemic in February 2020 Budget speech, however, the RBI did not have any plans to monetise deficit.