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Fiscal Deficit and Term Structure of Interest Rate Links on Corporate Investment: Analyzing the Post-Pandemic Monetary Policy Transmission Using Indian High Frequency Data

Author

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  • Lekha S. Chakraborty
  • C. Prasanth

Abstract

Using high-frequency macro data from a financially deregulated regime, this paper examines whether there is any evidence of financial crowding out in India. The macroeconomic channel through which financial crowding out occurs is the link between the fiscal deficit and the interest rate determination. The results revealed that the fiscal deficit does not significantly determine interest rates in the post-pandemic monetary policy stance in India. The long-term interest rates were strongly influenced by the short-term interest rates, a fact which reinforces that the term structure is operating in India. The results further revealed that long-term interest rates were also positively influenced by capital flows and inflation expectations, while inversely impacted by the money supply. These inferences have policy implications on the fiscal and monetary policy coordination in India, where it is crucial to analyze the effect of a high-interest-rate regime on public corporate investment. Our results showed that public infrastructure investment and rate of interest are significant determinants of private corporate investment. Our results counter the popular belief that deficits determine interest rates in the context of emerging economies and "crowd out" private corporate investment.

Suggested Citation

  • Lekha S. Chakraborty & C. Prasanth, 2025. "Fiscal Deficit and Term Structure of Interest Rate Links on Corporate Investment: Analyzing the Post-Pandemic Monetary Policy Transmission Using Indian High Frequency Data," Economics Working Paper Archive wp_1085, Levy Economics Institute.
    • Handle: RePEc:lev:wrkpap:wp_1085
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    References listed on IDEAS

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    JEL classification:

    • E62 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Fiscal Policy; Modern Monetary Theory
    • C32 - Mathematical and Quantitative Methods - - Multiple or Simultaneous Equation Models; Multiple Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models; Diffusion Processes; State Space Models
    • H6 - Public Economics - - National Budget, Deficit, and Debt

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