Question

This is assessment 2: Research Essay 30 marks

Length 3,000 words

Please note that this question requires substantial research (see the assessment criteria below).

(a) Explain how GDP is measured in your country. Provide real life examples.

While your textbook is your first point of reference, you should consult other references in order to receive full marks. Use real life examples (with references) to support your discussion.   

(b) Explain the macroeconomic effects of COVID-19 pandemic on your country using economic theory, real life data and illustrate them on appropriate diagrams.

This is your case study that you need to describe in details, provide relevant information, use table, diagrams where appropriate. You should use real data as much as possible. Refer to the textbook for the theoretical framework.

(b) Using your home country as a case study outline two main economic measures government applied to the national economy due to COVID-19 pandemic. Analyse the effect of such measures on inflation, output and employment using economic theory. What measures would you suggest and why? Explain using theory and real data.

Use economic theory and real data to analyse the issues. Explain whether the measures are based on fiscal policy and/or monetary policy.

Answer 1

A)What is GDP? How GDP of India is measured?

Gross Domestic Product (GDP) is the final value of all Goods and Services produced by a country in a particular period. GDP is widely used to measure any Country's economic growth. Thus, I can say that GDP represents the monetary value of all finished goods and services produced within a country in a specific time period. Though GDP looks very simple element from its definition but its calculation is very complex since it takes into consideration many factors such as Index of Industrial Production(IIP) and Consumer price index (CPI) etc.

Characteristics of GDP of India-

• A GDP always measures the value of all goods and services at their Market Prices and not at Cost Prices;
• GDP takes into consideration the value of all finished goods and services. It never counts on the intermediary uses of goods and services;
• It takes into consideration the output produced in the county. Thus, in the calculation of GDP of India, the output produced by a foreign company in India is considered in the GDP of India;
• GDP growth rate is exhibited in Real rate always without including the impact of inflation.
• GDP is measured on a timely basis such as quarterly or annually;
• GDP measures the country's total economy in the local currency;
• The value of GDP of India is comprised of the multiplication of quantities by the market prices of all goods and services produced in India(Q*P).

Most popularly used formula for GDP of India calculation is as follow:

GDP = C+G+I+NX(Exports-Imports)

Where C= Private consumption expenditure,

G=Government spending,

I= Investments,

NX= Net Exports(Exports-Imports)

There are basically three methods for calculation of GDP of India.

1.Expenditure method

This method is a widely used technique for measuring GDP in terms of economic output. The formula is again given below for elaborate understanding.

GDP = C+G+I+NX(Exports-Imports)

Where, C= Private consumption expenditure. This is the amount spent on goods and services by consumers.

G=Government spending is the amount spent by the Govt. on goods and services.

I= Investment is the amount spent on the creation of fixed capital and inventories. This factor is also known as Capital formation. Investment is created in the forms of assets that increase the economy's ability to produce output in the future.

NX= Net Exports(Exports-Imports). Here, exports mean goods produced locally and consumed abroad and imports are goods produced abroad and consumed locally. The difference between the two is net exports.

2. Value addition method

Under this method, the value or price of all final goods and services are to be added up without taking into consideration the value of the intermediary goods and services. This means the value addition for unfinished goods and services are not be included under this method. Thus, value added refers to the addition of value to the raw materials. Thus it can be said that Value addition is the difference between the value of output and value of intermediate consumption. This method is also known as Product method, Inventory method, Net output method and Commodity service method.

Value Added: Value of Output – Intermediate Consumption.

Under this method of GDP calculation the following Industry-specific analysis is taken into considerations:

• Agriculture;
• Mining and quarrying;
• Manufacturing;
• Electricity, gas, water supply and other utility services;
• Construction;
• Trade, hotels, transport, communication and services related to broadcasting;
• Financial, real estate and professional services;
• Public administration, defence and other services ;

3. Income method

The income approach formula for GDP calculation is given below:

Total National Income + Sales Tax+Depreciation+Net Foreign Income.

Total national income is equal to the sum of all wages plus rents plus interest and profits. In India, this method for GDP calculation is not taken into consideration. So, this is not discussed elaborately for topic-specific discussion.

B)India is not going to remain isolated from the impact of COVID-19 and the subsequent extended countrywide lockdown. It, however, is less likely to be affected than countries that are largely dependent on exports. Indian GDP is expected to slow down between 1-2% as per various estimates, with IMF projecting 1.9% for FY21 as compared to the rest of the world, which will plunge into negative GDP except China.

RBI has taken several steps to reduce the negative impact of lockdown on the economy through various monetary policy measures, i.e. CRR reduction, reduction in repo-reverse repo rates, TLTRO facility for Banks and NBFCs, refinancing window, the moratorium on loan repayment, 90 days freeze on NPA declaration, etc.

The repo rate has fallen to the lowest ever. Before this, it had hit the lowest point of 4.74% in April 2009 in the wake of the Global Financial Crisis.

Cash Reserve Ratio

a. Liquidity in the banking system remains ample, as reflected in absorption of surpluses from the banking system under reverse repo operations of the LAF of the order of ₹ 2.86 lakh crore on a daily average basis during March 1-25, 2020. It is observed, however, that the distribution of this liquidity is highly asymmetrical across the financial system, and starkly so within the banking system.

As a one-time measure to help banks tide over the disruption caused by COVID-19, it has been decided to reduce the cash reserve ratio (CRR) of all banks by 100 basis points to 3.0 per cent of net demand and time liabilities (NDTL) with effect from the reporting fortnight beginning March 28, 2020. This reduction in the CRR would release primary liquidity of about ₹ 1,37,000 crore uniformly across the banking system in proportion to liabilities of constituents rather than in relation to holdings of excess SLR. This dispensation will be available for a period of one year ending on March 26, 2021.

b. Furthermore, taking cognisance of hardships faced by banks in terms of social distancing of staff and consequent strains on reporting requirements, it has been decided to reduce the requirement of minimum daily CRR balance maintenance from 90 per cent to 80 per cent effective from the first day of the reporting fortnight beginning March 28, 2020. This is a one-time dispensation available up to June 26, 2020..

Marginal Standing Facility-

Under the marginal standing facility (MSF), banks can borrow overnight at their discretion by dipping up to 2 per cent into the Statutory Liquidity Ratio (SLR). In view of the exceptionally high volatility in domestic financial markets which bring in phases of liquidity stress and to provide comfort to the banking system, it has been decided to increase the limit of 2 per cent to 3 per cent with immediate effect. This measure will be applicable up to June 30, 2020. This is intended to provide comfort to the banking system by allowing it to avail an additional ₹ 1,37,000 crore of liquidity under the LAF window in times of stress at the reduced MSF rate announced in the MPC’s resolution.

These three measures relating to TLTRO, CRR and MSF will inject a total liquidity of ₹ 3.74 lakh crore to the system.

Widening of the Monetary Policy Rate Corridor-

In view of persistent excess liquidity, it has been decided to widen the existing policy rate corridor from 50 bps to 65 bps. Under the new corridor, the reverse repo rate under the liquidity adjustment facility (LAF) would be 40 bps lower than the policy repo rate. The marginal standing facility (MSF) rate would continue to be 25 bps above the policy repo rate.

II. Regulation and Supervision

Alongside liquidity measures, it is important that efforts are undertaken to mitigate the burden of debt servicing brought about by disruptions on account of the fall-out of the COVID-19 pandemic. Such efforts, in turn, will prevent the transmission of financial stress to the real economy, and will ensure the continuity of viable businesses and provide relief to borrowers in these extraordinarily troubled times.

.Moratorium on Term Loans-

All commercial banks (including regional rural banks, small finance banks and local area banks), co-operative banks, all-India Financial Institutions, and NBFCs (including housing finance companies and micro-finance institutions) (“lending institutions”) are being permitted to allow a moratorium of three months on payment of instalments in respect of all term loans outstanding as on March 1, 2020. Accordingly, the repayment schedule and all subsequent due dates, as also the tenor for such loans, may be shifted across the board by three months.

6. Deferment of Interest on Working Capital Facilities

In respect of working capital facilities sanctioned in the form of cash credit/overdraft, lending institutions are being permitted to allow a deferment of three months on payment of interest in respect of all such facilities outstanding as on March 1, 2020. The accumulated interest for the period will be paid after the expiry of the deferment period.

In respect of paragraphs 5 and 6 above, the moratorium/deferment is being provided specifically to enable the borrowers to tide over the economic fallout from COVID-19. Hence, the same will not be treated as change in terms and conditions of loan agreements due to financial difficulty of the borrowers and, consequently, will not result in asset classification downgrade. The lending institutions may accordingly put in place a Board approved policy in this regard.

Easing of Working Capital Financing-

In respect of working capital facilities sanctioned in the form of cash credit/overdraft, lending institutions may recalculate drawing power by reducing margins and/or by reassessing the working capital cycle for the borrowers. Such changes in credit terms permitted to the borrowers to specifically tide over the economic fallout from COVID-19 will not be treated as concessions granted due to financial difficulties of the borrower, and consequently, will not result in asset classification downgrade.

In respect of paragraphs 5, 6 and 7, the rescheduling of payments will not qualify as a default for the purposes of supervisory reporting and reporting to credit information companies (CICs) by the lending institutions. CICs shall ensure that the actions taken by lending institutions pursuant to the above announcements do not adversely impact the credit history of the beneficiaries.

Deferment of Implementation of Net Stable Funding Ratio (NSFR)-

As part of reforms undertaken in the years following the global financial crisis, the Basel Committee on Banking Supervision (BCBS) had introduced the Net Stable Funding Ratio (NSFR) which reduces funding risk by requiring banks to fund their activities with sufficiently stable sources of funding over a time horizon of a year in order to mitigate the risk of future funding stress. As per the prescribed timeline, banks in India were required to maintain NSFR of 100 per cent from April 1, 2020. It has now been decided to defer the implementation of NSFR by six months from April 1, 2020 to October 1, 2020.