With global financial crisis expected to last for 'several more quarters', the International Monetary Fund has called for a large and timely fiscal stimulus with targeted tax cuts, increased spending and even insurance cover from governments.
Pointing out that action should be immediate, IMF said there should be a collective effort and that each country that has fiscal space should contribute.
"The optimal fiscal package should be timely, large, lasting, diversified, contingent, collective, and sustainable: timely, because the need for action is immediate; large, because the current and expected decrease in private demand is exceptionally large.
". . .collective, since each country that has fiscal space should contribute; and sustainable, so as not to lead to a debt explosion and adverse reactions of financial markets," IMF said.
According to the agency, as the current crisis would last at least for several more quarters, the fiscal stimulus can rely, more than is usual, on spending measures.
"Looking at the content of the fiscal package, in the current circumstances, spending increases, and targeted tax cuts and transfers, are likely to have the highest multipliers.
"General tax cuts or subsidies, either for consumers or for firms, are likely to have lower multipliers," IMF said in its latest research paper titled 'Fiscal Policy for the Crisis'.
IMF has also mooted the idea of governments providing insurance against extreme recessions by offering contracts with payment.
The agency has pointed out that for instance, such an insurance could be made available, contingent on GDP growth declining below some 'threshold level.'
"Banks could condition loan approvals on firms having purchased such insurance from the government. While such contracts would most likely be attractive to firms, which suffer disproportionately during large recessions, they could be open to individuals as well," the research paper said.
IMF has asserted that to fight the current credit turmoil, there needs to be policy measures to repair the financial system and steps to increase demand.
"The current crisis calls for two main sets of policy measures. First, measures to repair the financial system. Second, measures to increase demand and restore confidence," the agency noted.
Individually, major economies have already pumped in billions of dollars into the financial system, with US alone injecting more than $2 trillion through various means, including rescue packages and commercial papers.
In October, the US announced a mega $700-billion plan to bolster the nation's recession-hit economy and recently, President George Bush came up with a 17.4-billion dollar lifeline for the ailing auto makers -- General Motors, Chrysler and Ford Motor.
Meanwhile, the Indian government had earlier this month unveiled a stimulus package cutting excise duty by four per cent across the board and raising public expenditure by Rs 20,000 crore (Rs 200 billion).
The country's central bank has injected Rs 3,00,000 lakh crore into the system through cuts in policy rates and various statutory requirements for banks.
Moreover, the second stimulus package is expected to be announced anytime soon.
Elaborating on the idea of insurance against extreme recessions, IMF noted that contingent liabilities created by such an initiative should be included appropriately in the budget.
This would help in dispelling the worry that the government 'may not be able or willing to honour its obligations', it said.