Assessing Policy Initiatives to Accelerate Economic Growth: An Illustration Using a Macroeconometric Model for India

This paper attempts to assess the effects of devaluation, demonetization and demand management through public investment (3Ds) on Indian economy using a macroeconometric model. The model is estimated using annual time series data for 1985–86 to 2009–10 at 2004–05 prices. A 30% devaluation of India-US bilateral nominal exchange rate re-confirmed the inverse ‘J-curve’ hypothesis for India. Similarly, the demonetization scenario consisting of 5% reduction in reserve money, 50% increase in deposits with commercial banks and 30% increase in direct taxes seems to suggest 5.3% decline in nominal GDP, but 0.3% increase in real GDP in 1991–92. In a third scenario, Rs. 30,000 crore increase in real public investment in conjunction with devaluation, demonetization and reduction in corporate tax (3Ds) seems to suggest quite beneficial impacts in the Indian economy. Due to shock-nature of these policy measures, the dynamic effects are found to dampen and vanish over time, confirming the long-run dynamic stability of the model. Since the financial sector has strong linkages with real sector, the former also contributed to these observed effects. It may be mentioned that this study is not meant to predict growth scenario, but it is methodological in nature to assess a given policy option to improve growth acceleration in India. In all, this study suggests that it is possible to stimulate real economic growth to a desired level with appropriate monetary and fiscal initiatives.