DISCUSSION
A Comment on Rajaraman’s Response
Mihir Rakshit
Iam grateful to Indira Rajaraman for | financial institutions fare in the medium |
going through my paper on the THFC | run; (b) whether the deficit is fi nanced |
and responding to it at some length. | through dollar-denominated debt, dome- |
My rejoinder is as below and the num | stic borrowing or seignorage; (c) the pre |
bered points are as in the response: | vailing degree of slack in the economy; |
and (d) additional GDP generated over | |
(1&2) Fiscal Adjustment Programme | time due to enhanced lending by banks to |
and GDP Growth: With an initial excess | credit-constrained enterprises. |
capacity, extremely weak (domestic) pri | |
vate demand for investment and (non- | (6) Human Capital Formation: Is cutting |
agricultural) consumption goods and | down expenditure on education a potent |
the anaemic pace of recovery of advan | way of promoting efficiency of investment |
ced countries,1 the FAP and projected | in human resources? How is one to factor |
growth path over the fi ve-year period | this in while setting expenditure targets? |
have to be based on the short-term con- | Would treating expenses on public works |
sideration of avoiding the output gap and | projects as revenue expenditure be justifi |
the medium-term need of bridging the | able on the same ground? |
economy’s infra structural-cum-human re | |
sources shortfall. The pertinent point to | (8) Seignorage: The (quasi) fi scal costs |
note here is that even wasteful govern | of negative seignorage during the pre |
ment expenditure for closing the gap is | crisis period was minuscule compared |
welfare- and GDP-enhancing in view of | with the huge loss the economy suffered in |
the zero oppor tunity cost of resources | terms of the unrealised investment/con |
used (Rakshit 2005, 2011). See also com | sumption potential. With an output gap, |
ments under 8 below. | the least-cost/least-distortionary mode of |
financing enhanced government expen | |
(3) Crowding Out: By how much and in | diture is seignorage. At the non-accelerating |
which areas should public capital expend | inflation rate of unemployment (NAIRU), |
iture be scaled down on considerations of | however, the optimum seignorage de |
the currently prevailing incidence of cor | pends (proximately) on the growth rate |
ruption? The cost-benefit calculus used | and people’s demand for real balan ces |
by the THFC in this context while fi xing | (Rakshit 2005); capital inflows to the |
the expenditure targets is not clear. | extent they promote the (NAIRU) growth |
rate raise rather than lower the scope for | |
(4) Disinvestment: Financing government | seignorage. Holding forex reserves in |
capital expenditure of (say) Rs 1,000 crore | excess of what is required for smooth |
through disinvestment2 whose present value | ening the volatility of the exchange rate |
(of future earnings foregone), discounted | due to random shocks or speculative be |
at the government’s (not private inves | haviour, does not make economic sense: |
tors’) borrowing costs, exceeds Rs 1,000 | capital inflows are required primarily for |
crore is suboptimal and reduces the | augmenting investment when there is |
attractiveness of sovereign debt to ration | no output gap, not when resources are |
al investors (Rakshit 2005). | underutilised (Rakshit 2003). The opti |
mum policy package during the pre-crisis | |
(5) Financial Inclusion: Rational private | period would have consisted of enhanced |
investors would take into account the fact | government investment and redistri |
that the debt burden due to the defi cit | butive expenditure, fi nanced through |
spending depends crucially on (a) how the | seignorage; imposition of taxes on FIIs |
140 | march 26, 2011 |
along with curbs on external commercial borrowings; and coordination of expansionary fiscal and monetary policies (Rakshit 2003, 2009). The fact that the RBI took recourse to large scale sale of government securities even while there was a substantial output gap attests to the glaring failure of macroeconomic policy coordination.
(10) Macro-stabilisation: Volatility of private investment, especially in an increasingly open economy, has very little to do with fiscal consolidation whose main outcome is (or is expected to be) promotion of average/trend growth in the medium and long run, not ironing out business cycles. Hence the need for a two-pronged fiscal management programme, as elaborated in Rakshit (2005, 2011).
Mihir Rakshit (proj_monfi n@hotmail.com) currently heads the Monetary Research Project, ICRA, and is based in Kolkata.
Notes
1 Still accounting for the major part of world income. 2 Rather than market borrowing.
References
Rakshit, M (2003): “External Capital Flows and Foreign Exchange Reserves: Some Macroeconomic Implications and Policy Issues”, Money & Finance, Vol 2, Nos 13-14, April-September; reprinted in Mihir Rakshit (2009), Money and Finance in the Indian Economy (New Delhi: Oxford University Press).

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