Fiscal and monetary policy regimes: New evidence from India

Abstract

The paper examines how fiscal and monetary policy coordination in India stabilizes macroeconomic fundamentals. We consider two coordinating fiscal and monetary policy regimes, the “Indian Fiscal” (IF) and M regime and then examine the transmission of public expenditure (PE) shock across these regimes. Monetary policy in the IFregime supports fiscal policy in debt stabilization by reducing interest rates. The M regime fiscal policy supports monetary policy in curbing inflation through fiscal consolidation drives. The IF regime is more conducive to the Indian economy as PE stimulus accelerates economic activity without causing high inflationary and high debt scenarios. In contrast, the M regime has a crowding out effect on PE stimulus while worsening the government's fiscal space. The findings indicate that in the Indian case, the monetary authority should maintain its accommodative stance on PE stimulus.