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Fiscal deficit targeting alongside flexible inflation targeting: India’s fiscal policy transmission

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  • Nandi, Aurodeep

Abstract

India is at the cusp of a macroeconomic policy upgrade: the government has opted for a fiscal deficit targeting rule in partial acceptance of the recommendations of the 2017 Fiscal Responsibility and Budget Management Review Committee while at the same time the central bank has adopted a flexible inflation targeting framework. This paper investigates the impact of these rules on one another using a dynamic stochastic general equilibrium (DSGE) model calibrated for the Indian economy. The study first ascertains that under a high degree of interest rate smoothing, a passive monetary policy is consistent with the fiscal deficit targeting rule in that determinacy of the price level is assured. Having established the central bank’s parameter space, the study next investigates the effect on fiscal policy transmission of varying the degree of monetary policy activeness. For positive fiscal spending shocks, more active monetary policy blunts the expansionary impact while reducing inflationary spillovers. The reverse holds for fiscal stimulus measures involving tax reductions, which are disinflationary, so that more active monetary policy amplifies the expansionary impact and mitigates the disinflationary impetus. The results highlight the need for coordination between fiscal intervention and monetary policy.

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  • Nandi, Aurodeep, 2019. "Fiscal deficit targeting alongside flexible inflation targeting: India’s fiscal policy transmission," Journal of Asian Economics, Elsevier, vol. 63(C), pages 1-18.
  • Handle: RePEc:eee:asieco:v:63:y:2019:i:c:p:1-18
    DOI: 10.1016/j.asieco.2019.06.002
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    1. Hanana Khan & Maran Marimuthu & Fong-Woon Lai, 2020. "Fiscal Deficit and Its Less Inflationary Sources of Borrowing with the Moderating Role of Political Instability: Evidence from Malaysia," Sustainability, MDPI, Open Access Journal, vol. 12(1), pages 1-16, January.

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    More about this item

    Keywords

    Fiscal policy; Monetary policy; DSGE; Indian economy;
    All these keywords.

    JEL classification:

    • E60 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - General
    • E61 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Policy Objectives; Policy Designs and Consistency; Policy Coordination
    • E62 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Fiscal Policy
    • E63 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Comparative or Joint Analysis of Fiscal and Monetary Policy; Stabilization; Treasury Policy

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