Eco project

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CHAPTER-1

INTRODUCTION

A free market economy was once believed to be capable of functioning without

interference by government; however, it does not automatically establish optimum demand

for goods and services. During the 1920's the quantity theory of money became widely

accepted, and the Federal Reserve was believed to be capable of preventing future "booms"

and "busts." The great depression shattered those hopes, resulting in increased emphasis on

fiscal policy.

In 1946 Congress passed the Full Employment Act, which in effect made the government

responsible for maintaining high levels of employment without inflation. The essential idea

is that the government, through monetary-fiscal policies, should augment or offset private

demand in such a way as to maintain high levels of employment and stable prices. Recently

emphasis has been given to two additional objectives, promoting economic growth and

protecting the balance of payments.

Presently economists generally agree that monetary-fiscal policies should and can be used

to prevent extreme economic fluctuations. Almost all economists agree that monetary

policy should be "tighter" in a period of full employment and inflation than during a period

of under-utilization of economic resources. They also agree that government revenues

relative to receipts should be higher during inflation periods and lower during recessions.

Unfortunately this still leaves much room for disagreement on which of these tools

represents the more potent force, on how tight or how easy money should be in particular

circumstances, and on the most desirable size of the budget deficit or surplus. Also, opinion

differs considerably about length of lags, for both monetary and fiscal policy, between: (1)

recognition of a need for action, (2) taking of action, and (3) eventual impact upon the

economy.

A STUDY ON SO-CIO ECONOMIC ROLE OF MONETARY AND FISCAL POLICY. M.COM MANAGEMENT PART-I

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These issues cannot be settled by logical analysis alone. Empirical evidence must be

brought to bear upon these areas of conflict.

In this discussion I will present the basic theory underlying the fiscal policy approach and

the monetary policy approach, cite what I consider to be the relevant evidence and then

apply my conclusions to the current debate concerning the desirability of a tax cut as well

as the dispute concerning use of monetary policy for reducing a Balance of payments

deficit.


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A) MEANING OF MONETARY POLICY

Having discussed the concept of economic development, now let us define the

monetary policy and describe its objectives. In General, monetary policy means the policy

of credit control and the deliberate management of money supply. As there are different

versions on meaning of economic development, here on monetary policy also various

definitions drawn by different economists. Paul Eizing defines monetary policy as” The

attitude of the political authority towards the monetary system of the community under its

control”.KP Kent has defined “ The Management of the expansion and contraction of the

volume of money in circulation for the explicit purpose of attaining a specific objective,

such as full employment” CK Johri states “ Monetary policy comprises those decisions of

Government and the Reserve Bank of India which affect the volume and composition

of money supply, the size and distribution of credit the level and structure of interest rates

and the effects of these variables upon the factors determining output and prices” GK Shaw

‘ By Monetary policy we means any conscious action undertaken by the monetary

authorities to change the quantity availability or cost of money”

We have various definitions, some of them are narrow and some are broad definitions

of monetary policy. CK Johri and GK Shaw gave broad definitions. In recent years, the use

of monetary policy in its broad sense is getting popular, as it is more useful and practical


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B) MEANING OF FISCAL POLICY

Fiscal Policy is one more important component of overall economic policy.

Monetary policy deals with the changes in demand for and supply of money where as fiscal

policy is concerned with non-monetary instruments. Fiscal policy, by employing its

instruments secures the economic stabilization in developed economies and economic

growth in underdeveloped countries. Its instruments broadly consist of (i) taxes (ii) Public

Borrowing (iii) Public Expenditure.

The importance of fiscal policy as an instrument of economic development was first

envisaged by Keynes in his General Theory wherein he showed that the total national

income was an index of economic activity and brought out the relation between economic

activity and total spending. The direct and indirect effects of fiscal policy on aggregate

spending in the community were clearly established and as a result the budgetary policy of

the government as a weapon of economic control and development came into prominence.

But the Keynesian analysis of fiscal policy is, applicable to the advanced and industrialized

countries and it has little relevance to underdeveloped countries. Let now look at definitions

given by different economists.

According to Arthur Smithies, fiscal policy means “ a policy under which the government

uses its expenditure and revenue programs to produce desirable effects and to avoid

undesirable effects on the national income, production and employment” GK Shaw has

defined fiscal policy in these words, “We define fiscal policy to encompass any decision to

change the level, composition or timing of government expenditure or to vary the burden,

structure or frequency of the tax payment”. A skilful management of fiscal policy

instruments can go long way in maintaining economic stability and ensuring higher rates of

economic growth.


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HISTORY OF FISCAL POLICY

Fiscal policy initiated from the theory propounded by John Maynard Keynes, a British

economist popularly known as Keynesian economist. He states that government can

influence macroeconomic productivity levels by increasing or decreasing tax level and

public spending. The first monetary circular in Nigeria was issued in 1969 while a new

comprehensive banking decree was promulgated these a me year, to serve as guideline for

establishing and conducting banking business in Nigeria. Later, financial system was

comprehensively reviewed in 1979. The review called for an increase in banking

supervision and regulation to encourage specialization of financial institutions; a

comprehensive compound of training and manpowered development in the banking system,

and as part of the effort to improve the monetary management function of CBN, all

financial institutions were required to make return on financial statistics to the CBN. The

implementation of various recommendations took immediate effect. However, following

the collapse of the International Oil Marketing the mild 1981, the Nigerian economy, which

was mainly oil dependent, began to nosedive with negative consequences for the fiscal and

monetary system.

Apart from the worsening economic condition in the 1980s, there was political in

stability in addition to weak socio-cultural relations. By the end of 1985, it became an

imperative evident that the economy had to beer structure din order to overcome

monumental problems such as those posed by slow economic growth, unemployment, the

debt burden and fundamental imbalance in the structure of production and consumption. In

response to this difficult circumstance, the Nigerian government undertook a structural

adjustment programmed (SAP) with respect to the economy. The financial system for

instance, was first to experience radical structural changes following the adoption of the

SAP in June 1986. It was aimed at restructuring the production base of the economy and

promoting non-inflationary economic growth. The federal ministry of finance advice the

federal government on its fiscal operation in collaborates with the central bank of Nigeria

on monetary matters. In 1991, the banks and other financial institution act (BOFID)

formally was promulgated to replace the CBN act of 1958 and the banking degree of

1969(including later amendments). The policy brought the non-banking financial


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intermediaries under the supervision of CBN on the debate that such institutions are

capable of influencing the monetary policy set and if not properly monitored can altered the

financial sector. Since then, the Nigeria banking system has evolved rapidly in a healthy,

competitive and regulative prospect till date.


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HISTORY OF MONETARY POLICY

Monetary policy is associated with interest rates and availabilility of credit. Instruments of

monetary policy have included short-term interest rates and bank reserves through the

monetary base. For many centuries there were only two forms of monetary policy: (i)

Decisions about coinage; (ii) Decisions to print paper money to create credit. Interest rates,

while now thought of as part of monetary authority, were not generally coordinated with

the other forms of monetary policy during this time. Monetary policy was seen as an

executive decision, and was generally in the hands of the authority with seignior age, or the

power to coin. With the advent of larger trading networks came the ability to set the price

between gold and silver, and the price of the local currency to foreign currencies. This

official price could be enforced by law, even if it varied from the market price.

Paper money called "jiaozi" originated from promissory notes in 7th century China. Jiaozi

did not replace metallic currency, and were used alongside the copper coins. The successive

Yuan Dynasty was the first government to use paper currency as the predominant

circulating medium. In the later course of the dynasty, facing massive shortages of specie to

fund war and their rule in China, they began printing paper money without restrictions,

resulting in hyperinflation.

With the creation of the Bank of England in 1694, which acquired the responsibility to print

notes and back them with gold, the idea of monetary policy as independent of executive

action began to be established. The goal of monetary policy was to maintain the value of

the coinage, print notes which would trade at par to specie, and prevent coins from leaving

circulation. The establishment of central banks by industrializing nations was associated

then with the desire to maintain the nation's peg to the gold standard, and to trade in a

narrow band with other gold-backed currencies. To accomplish this end, central banks as

part of the gold standard began setting the interest rates that they charged, both their own

borrowers, and other banks who required liquidity. The maintenance of a gold standard

required almost monthly adjustments of interest rates.

During the 1870–1920 period, the industrialized nations set up central banking systems,

with one of the last being the Federal Reserve in 1913. By this point the role of the central

bank as the "lender of last resort" was understood. It was also increasingly understood that

interest rates had an effect on the entire economy, in no small part because of the marginal


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revolution in economics, which demonstrated how people would change a decision based

on a change in the economic trade-offs.

Monetarist economists long contended that the money-supply growth could affect the

macro economy. These included Milton Friedman who early in his career advocated that

government budget deficits during recessions be financed in equal amount by money

creation to help to stimulate aggregate demand for output. Later he advocated simply

increasing the monetary supply at a low, constant rate, as the best way of maintaining low

inflation and stable output growth. However, when U.S. Federal Reserve Chairman Paul

Volcker tried this policy, starting in October 1979, it was found to be impractical, because

of the highly unstable relationship between monetary aggregates and other macroeconomic

variables. Even Milton Friedman acknowledged that money supply targeting was less

successful than he had hoped, in an interview with the Financial Times on June 7, 2003.

Therefore, monetary decisions today take into account a wider range of factors, such as:

short term interest rates;

long term interest rates;

velocity of money through the economy;

exchange rates;

credit quality;

bonds and equities (corporate ownership and debt);

government versus private sector spending/savings;

international capital flows of money on large scales;

financial derivatives such as options, swaps, futures contracts, etc.

A small but vocal group of people, primarily libertarians and Constitutionalists advocate for

a return to the gold standard (the elimination of the dollar's fiat currency status and even of

the Federal Reserve Bank). Their argument is basically that monetary policy is fraught with

risk and these risks will result in drastic harm to the populace should monetary policy fail.

Others[who?] see another problem with our current monetary policy. The problem for them is

not that our money has nothing physical to define its value, but that fractional reserve

lending of that money as a debt to the recipient, rather than a credit, causes all but a small

proportion of society (including all governments) to be perpetually in debt.


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In fact, many economists disagree with returning to a gold standard. They argue that doing

so would drastically limit the money supply, and throw away 100 years of advancement in

monetary policy. The sometimes complex financial transactions that make big business

(especially international business) easier and safer would be much more difficult if not

impossible. Moreover, shifting risk to different people/companies that specialize in

monitoring and using risk can turn any financial risk into a known dollar amount and

therefore make business predictable and more profitable for everyone involved. Some have

claimed that these arguments lost credibility in the global financial crisis of 2008–2009.

Trends in central banking

The central bank influences interest rates by expanding or contracting the monetary base,

which consists of currency in circulation and banks' reserves on deposit at the central bank.

The primary way that the central bank can affect the monetary base is by open market

operations or sales and purchases of second hand government debt, or by changing the

reserve requirements. If the central bank wishes to lower interest rates, it purchases

government debt, thereby increasing the amount of cash in circulation or crediting banks'

reserve accounts. Alternatively, it can lower the interest rate on discounts or overdrafts

(loans to banks secured by suitable collateral, specified by the central bank). If the interest

rate on such transactions is sufficiently low, commercial banks can borrow from the central

bank to meet reserve requirements and use the additional liquidity to expand their balance

sheets, increasing the credit available to the economy. Lowering reserve requirements has a

similar effect, freeing up funds for banks to increase loans or buy other profitable assets.

A central bank can only operate a truly independent monetary policy when the exchange

rate is floating.[18] If the exchange rate is pegged or managed in any way, the central bank

will have to purchase or sell foreign exchange. These transactions in foreign exchange will

have an effect on the monetary base analogous to open market purchases and sales of

government debt; if the central bank buys foreign exchange, the monetary base expands,

and vice versa. But even in the case of a pure floating exchange rate, central banks and

monetary authorities can at best "lean against the wind" in a world where capital is mobile.

Accordingly, the management of the exchange rate will influence domestic monetary

conditions. To maintain its monetary policy target, the central bank will have to sterilize or

offset its foreign exchange operations. For example, if a central bank buys foreign


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exchange (to counteract appreciation of the exchange rate), base money will increase.

Therefore, to sterilize that increase, the central bank must also sell government debt to

contract the monetary base by an equal amount. It follows that turbulent activity in foreign

exchange markets can cause a central bank to lose control of domestic monetary policy

when it is also managing the exchange rate.

In the 1980s, many economists which argues that central bank monetary policy aggravates

the business cycle, creating malinvestment and maladjustments in the economy which then

cause downcycle corrections, but most economists fall into either the Keynesian or

neoclassical camps on this issue.

Developing countries

Developing countries may have problems establishing an effective operating monetary

policy. The primary difficulty is that few developing countries have deep markets in

government debt. The matter is further complicated by the difficulties in forecasting money

demand and fiscal pressure to levy the inflation tax by expanding the monetary base

rapidly. In general, the central banks in many developing countries have poor records in

managing monetary policy. This is often because the monetary authority in a developing

country is not independent of government, so good monetary policy takes a backseat to the

political desires of the government or are used to pursue other non-monetary goals. For this

and other reasons, developing countries that want to establish credible monetary policy may

institute a currency board or adopt dollarization. Such forms of monetary institutions thus

essentially tie the hands of the government from interference and, it is hoped, that such

policies will import the monetary policy of the anchor nation.

Recent attempts at liberalizing and reforming financial markets (particularly the

recapitalization of banks and other financial institutions in Nigeria and elsewhere) are

gradually providing the latitude required to implement monetary policy frameworks by the

relevant central banks.


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OBJECTIVES OF MONETARY POLICY:

The objectives of monetary policy have been varying from time to time depending upon the

nature of problems facing the countries and the general economic policy pursued by them.

The main objectives are: (a) Exchange Stability (b) Price Stability (c) Neutrality of Money

(d) Full-Employment (e) Economic Growth (f) Balance of Payments equilibrium. Some

times these objectives are mutually incompatible and the monetary authority has to make a

choice on the basis of priorities. For instance, the objective of maintaining exchange rate

stability may come in conflict with the objective of maintaining internal price stability;

Let us now see objectives of monetary policy in detail :-

1. Rapid Economic Growth: It is the most important objective of a monetary policy.

The monetary policy can influence economic growth by controlling real interest rate

and its resultant impact on the investment. If the RBI opts for a cheap or easy credit

policy by reducing interest rates, the investment level in the economy can be

encouraged. This increased investment can speed up economic growth. Faster

economic growth is possible if the monetary policy succeeds in maintaining income

and price stability.

2. Price Stability: All the economics suffer from inflation and deflation. It can also be

called as Price Instability. Both inflation are harmful to the economy. Thus, the

monetary policy having an objective of price stability tries to keep the value of

money stable. It helps in reducing the income and wealth inequalities. When the

economy suffers from recession the monetary policy should be an 'easy money

policy' but when there is inflationary situation there should be a 'dear money policy'.

3. Exchange Rate Stability: Exchange rate is the price of a home currency expressed

in terms of any foreign currency. If this exchange rate is very volatile leading to

frequent ups and downs in the exchange rate, the international community might

lose confidence in our economy. The monetary policy aims at maintaining the

relative stability in the exchange rate. The RBI by altering the foreign exchange

reserves tries to influence the demand for foreign exchange and tries to maintain the

exchange rate stability.

4. Balance of Payments (BOP) Equilibrium: Many developing countries like India

suffers from the Disequilibrium in the BOP. The Reserve Bank of India through its

monetary policy tries to maintain equilibrium in the balance of payments. The BOP


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has two aspects i.e. the 'BOP Surplus' and the 'BOP Deficit'. The former reflects an

excess money supply in the domestic economy, while the later stands for stringency

of money. If the monetary policy succeeds in maintaining monetary equilibrium,

then the BOP equilibrium can be achieved.

5. Full Employment: The concept of full employment was much discussed after

Keynes's publication of the "General Theory" in 1936. It refers to absence of

involuntary unemployment. In simple words 'Full Employment' stands for a

situation in which everybody who wants jobs get jobs. However it does not mean

that there is a Zero unemployment. In that senses the full employment is never full.

Monetary policy can be used for achieving full employment. If the monetary policy

is expansionary then credit supply can be encouraged. It could help in creating more

jobs in different sector of the economy.

6. Neutrality of Money: Economist such as Wicksted, Robertson has always

considered money as a passive factor. According to them, money should play only a

role of medium of exchange and not more than that. Therefore, the monetary policy

should regulate the supply of money. The change in money supply creates monetary

disequilibrium. Thus monetary policy has to regulate the supply of money and

neutralize the effect of money expansion. However this objective of a monetary

policy is always criticized on the ground that if money supply is kept constant then

it would be difficult to attain price stability.

7. Equal Income Distribution: Many economists used to justify the role of the fiscal

policy is maintaining economic equality. However in resent years economists have

given the opinion that the monetary policy can help and play a supplementary role

in attainting an economic equality. monetary policy can make special provisions for

the neglect supply such as agriculture, small-scale industries, village industries, etc.

and provide them with cheaper credit for longer term. This can prove fruitful for

these sectors to come up. Thus in recent period, monetary policy can help in

reducing economic inequalities among different sections of society.


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OBJECTIVES OF FISCAL POLICY

Objectives of fiscal policy are as follows (i) Securing the most efficient and rational

allocation of economic resources (ii) Accelerating the rate of capital formation (iii)

Controlling inflation (iv) Securing equitable distribution of income and wealth (v)Attaining

and maintaining full employment.

1. Development by effective Mobilisation of Resources

The principal objective of fiscal policy is to ensure rapid economic growth and

development. This objective of economic growth and development can be achieved by

Mobilisation of Financial Resources. The central and the state governments in India have

used fiscal policy to mobilise resources.

The financial resources can be mobilized by :-

1. Taxation : Through effective fiscal policies, the government aims to mobilise resources

by way of direct taxes as well as indirect taxes because most important source of

resource mobilisation in India is taxation.

2. Public Savings : The resources can be mobilised through public savings by reducing

government expenditure and increasing surpluses of public sector enterprises.

3. Private Savings : Through effective fiscal measures such as tax benefits, the

government can raise resources from private sector and households. Resources can be

mobilised through government borrowings by ways of treasury bills, issue of

government bonds, etc., loans from domestic and foreign parties and by deficit

financing.

2. Efficient allocation of Financial Resources:

The central and state governments have tried to make efficient allocation of financial

resources. These resources are allocated for Development Activities which includes

expenditure on railways, infrastructure, etc. While Non-development Activities includes

expenditure on defence, interest payments, subsidies, etc.

3. Reduction in inequalities of Income and Wealth: Fiscal policy aims at achieving

equity or social justice by reducing income inequalities among different sections of the


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society. The direct taxes such as income tax are charged more on the rich people as

compared to lower income groups. Indirect taxes are also more in the case of semi-luxury

and luxury items, which are mostly consumed by the upper middle class and the upper

class. The government invests a significant proportion of its tax revenue in the

implementation of Poverty Alleviation Programmes to improve the conditions of poor

people in society.

4. Price Stability and Control of Inflation:One of the main objective of fiscal policy is to

control inflation and stabilize price. Therefore, the government always aims to control the

inflation by Reducing fiscal deficits, introducing tax savings schemes, Productive use of

financial resources, etc.

5. Employment Generation:The government is making every possible effort to increase

employment in the country through effective fiscal measure. Investment in infrastructure

has resulted in direct and indirect employment. Lower taxes and duties on small-scale

industrial (SSI) units encourage more investment and consequently generates more

employment. Various rural employment programmes have been undertaken by the

Government of India to solve problems in rural areas. Similarly, self employment scheme is

taken to provide employment to technically qualified persons in the urban areas.

6. Balanced Regional Development: Another main objective of the fiscal policy is to

bring about a balanced regional development. There are various incentives from the

government for setting up projects in backward areas such as Cash subsidy, Concession in

taxes and duties in the form of tax holidays, Finance at concessional interest rates, etc.

7. Reducing the Deficit in the Balance of Payment: Fiscal policy attempts to encourage

more exports by way of fiscal measures like Exemption of income tax on export earnings,

Exemption of central excise duties and customs, Exemption of sales tax and octroi, etc.

The foreign exchange is also conserved by Providing fiscal benefits to import substitute

industries, Imposing customs duties on imports, etc.

The foreign exchange earned by way of exports and saved by way of import substitutes

helps to solve balance of payments problem. In this way adverse balance of payment can be

corrected either by imposing duties on imports or by giving subsidies to export.


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8. Capital Formation:The objective of fiscal policy in India is also to increase the rate of

capital formation so as to accelerate the rate of economic growth. An underdeveloped

country is trapped in vicious (danger) circle of poverty mainly on account of capital

deficiency. In order to increase the rate of capital formation, the fiscal policy must be

efficiently designed to encourage savings and discourage and reduce spending.

9. Increasing National Income: The fiscal policy aims to increase the national income of a

country. This is because fiscal policy facilitates the capital formation. This results in

economic growth, which in turn increases the GDP, per capita income and national income

of the country.

10. Development of Infrastructure: Government has placed emphasis on the

infrastructure development for the purpose of achieving economic growth. The fiscal policy

measure such as taxation generates revenue to the government. A part of the government's

revenue is invested in the infrastructure development. Due to this, all sectors of the

economy get a boost.


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CHAPTER-2

REVIEW OF LITERATURE MONETARY POLICY

Monetary policy rests on the relationship between the rates of interest in an economy, that

is, the price at which money can be borrowed, and the total supply of money. Monetary

policy uses a variety of tools to control one or both of these, to influence outcomes like

economic growth, inflation, exchange rates with other currencies and unemployment.

Where currency is under a monopoly of issuance, or where there is a regulated system of

issuing currency through banks which are tied to a central bank, the monetary authority has

the ability to alter the money supply and thus influence the interest rate (to achieve policy

goals). The beginning of monetary policy as such comes from the late 19th century, where

it was used to maintain the gold standard.

A policy is referred to as contractionary if it reduces the size of the money supply or

increases it only slowly, or if it raises the interest rate. An expansionary policy increases the

size of the money supply more rapidly, or decreases the interest rate. Furthermore,

monetary policies are described as follows: accommodative, if the interest rate set by the

central monetary authority is intended to create economic growth; neutral, if it is intended

neither to create growth nor combat inflation; or tight if intended to reduce inflation.

There are several monetary policy tools available to achieve these ends: increasing interest

rates by fiat; reducing the monetary base; and increasing reserve requirements. All have the

effect of contracting the money supply; and, if reversed, expand the money supply. Since

the 1970s, monetary policy has generally been formed separately from fiscal policy. Even

prior to the 1970s, the Breton Woods system still ensured that most nations would form the

two policies separately.

Within almost all modern nations, special institutions (such as the Federal Reserve System

in the United States, the Bank of England, the European Central Bank, the People's Bank of

China, and the Bank of Japan) exist which have the task of executing the monetary policy

and often independently of the executive. In general, these institutions are called central

banks and often have other responsibilities such as supervising the smooth operation of the

financial system.


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The primary tool of monetary policy is open market operations. This entails managing the

quantity of money in circulation through the buying and selling of various financial

instruments, such as treasury bills, company bonds, or foreign currencies. All of these

purchases or sales result in more or less base currency entering or leaving market

circulation.

Usually, the short term goal of open market operations is to achieve a specific short term

interest rate target. In other instances, monetary policy might instead entail the targeting of

a specific exchange rate relative to some foreign currency or else relative to gold. For

example, in the case of the USA the Federal Reserve targets the federal funds rate, the rate

at which member banks lend to one another overnight; however, the monetary policy of

China is to target the exchange rate between the Chinese renminbi and a basket of foreign

currencies.

The other primary means of conducting monetary policy include: (i) Discount window

lending (lender of last resort); (ii) Fractional deposit lending (changes in the reserve

requirement); (iii) Moral suasion (cajoling certain market players to achieve specified

outcomes); (iv) "Open mouth operations" (talking monetary policy with the market).

Theory

Monetary policy is the process by which the government, central bank, or monetary

authority of a country controls (i) the supply of money, (ii) availability of money, and (iii)

cost of money or rate of interest to attain a set of objectives oriented towards the growth

and stability of the economy.[1] Monetary theory provides insight into how to craft optimal

monetary policy.

Monetary policy rests on the relationship between the rates of interest in an economy, that

is the price at which money can be borrowed, and the total supply of money. Monetary

policy uses a variety of tools to control one or both of these, to influence outcomes like

economic growth, inflation, exchange rates with other currencies and unemployment.

Where currency is under a monopoly of issuance, or where there is a regulated system of

issuing currency through banks which are tied to a central bank, the monetary authority has

the ability to alter the money supply and thus influence the interest rate (to achieve policy

goals).


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REVIEW OF LITERATURE ON COUNTERCYCLICAL FISCAL POLICY

There are a number of studies that have examined budgetary policies of the Government in

the context of their responsiveness to cyclical fluctuations in the economy. Even though, as

is widely believed, there is greater importance of such fiscal stance in developing countries,

the stabilizing policies carried out by Western countries have also received considerable

attention.

The present review of literature is essential in the context of the FRBM Act, which has

been enacted not only by many of the states but also the Central Government of India. The

issue of FRBM becomes vital since it is very much essential for the Government to fiscally

intervene during the time of economic downturns, whereas the enactment of the Act itself

binds the Government not to increase its expenditure in a productive manner during such

times. There lies the contradiction, which leads one to go for a review of literature.

Anybody who has studied Economics can always agree that there exists business cycle in a

capitalist economy, and so there exist upturns and downturns. FRBM Act is always good

when a capitalist economy is undergoing through rapid economic progress, so that

productive Government expenditure do not crowd out private investment. However, some

economists may claim that fiscal intervention may not be necessary during bad times

because of the existence of “automatic stabilizers”. Hence, the enactment of FRBM Act is

justified. But there is also the requirement for doing a study, which is empirical in nature so

that one knows whether economic intervention by the Government is needed or not during

Auerbach (2002) finds that in the recent years, US discretionary fiscal policy appears to

have become more active in response to both cyclical conditions and a simple measure of

budget balance. Budgetary pressure may weaken the efficacy of expansionary fiscal policy,

Auerbach (2002) argues. Fiscal policy, which is contractionary in nature, might have a

positive impact on output. The paper by Auerbach (2002) says that automatic stabilizers

embedded in the fiscal system have little net change since the 1960s and have contributed

to cushioning cyclical fluctuations. The tax revenues itself is very much sensitive to the

economic cycle. Auerbach (2002) finds that employment surplus has fallen in response to a

rise in the Gross Domestic Product (GDP) gap, consistent with the use of discretionary

countercyclical fiscal policy. Auerbach’s (2002) result suggests a recent increase in the


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responsiveness of discretionary spending to the budget surplus, with this relationship being

statistically significant since 1993. Fiscal policy has been responsive both to cyclical

factors and conditions of fiscal balance during recent decades. One method of measuring,

according to Auerbach’s (2002), the strength of automatic stabilizers is related to the gap

between the full-employment surplus, and the unadjusted surplus to the contemporaneous

gap between GDP and full employment GDP. Auerbach’s (2002) paper show that

discretionary fiscal policy’s overall impact was minimal compared to that of monetary

policy. Automatic stabilizers are directly tied to output fluctuation.

The role of current and tax provisions and expectations has been described by Auerbach

(2002) using the standard Hall-Jorgenson user cost of capital, which provides a measure of

the required gross, before-tax return to measure of the incentive to use capital in

production. Auerbach (2002) has used the data from CBO forecast revisions, which are

available since summer, 1984, as the pattern of semiannual forecast begins with the winter,

1984 Budget Outlook. For each observation, Auerbach (2002) measures the policy changes

with respect to revenues, expenditures, or their difference—the surplus—as the discounted

sum of policy changes adopted during the interval for the current and subsequent five fiscal

years (relative to each year’s corresponding measure of potential GDP), with the six

weights normalized to sum to 1. Auerbach (2002) has also done calculation on the basis of

NBER TAXSIM model using a ‘tax calculator’ in order to estimate the impact on tax

liability of changes in tax-return components of income and deductions.

capital and hence a Buti’s (2001) study find that it takes time, as well, to pass the fiscal

measures through the national Parliaments and it takes time for the economy to respond.

Hence, once decided, the fiscal policy measures can rarely be adjusted to the changing

economic circumstances.

Moreover, there are always political constraints: it tends to be much easier for governments

to ease fiscal policy than to tighten and once the measure is taken it tends to become

irreversible.


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LIMITATIONS OF MONETARY POLICY:

1. There exist a Non-Monetized Sector

In many developing countries, there is an existence of non-monetized economy in large

extent. People live in rural areas where many of the transactions are of the barter type and

not monetary type. Similarly, due to non-monetized sector the progress of commercial

banks is not up to the mark. This creates a major bottleneck in the implementation of the

monetary policy.

2. Excess Non-Banking Financial Institutions (NBFI)

As the economy launch itself into a higher orbit of economic growth and development, the

financial sector comes up with great speed. As a result many Non-Banking Financial

Institutions (NBFIs) come up. These NBFIs also provide credit in the economy. However,

the NBFIs do not come under the purview of a monetary policy and thus nullify the effect

of a monetary policy.

3. Existence of Unorganized Financial Markets

The financial markets help in implementing the monetary policy. In many developing

countries the financial markets especially the money markets are of an unorganized nature

and in backward conditions. In many places people like money lenders, traders, and

businessman actively take part in money lending. But unfortunately they do not come under

the purview of a monetary policy and creates hurdle in the success of a monetary policy.

4. Higher Liquidity Hinders Monetary Policy

In rapidly growing economy the deposit base of many commercial banks is expanded. This

creates excess liquidity in the system. Under this circumstances even if the monetary policy

increases the CRR or SLR, it dose not deter commercial banks from credit creation. So the

existence of excess liquidity due to high deposit base is a hindrance in the way of

successful monetary policy.


21

5. Money Not Appearing in an Economy

Large percentage of money never come in the mainstream economy. Rich people, traders,

businessmen and other people prefer to spend rather than to deposit money in the bank.

This shadow money is used for buying precious metals like gold, silver, ornaments, land

and in speculation. This type of lavish spending give rise to inflationary trend in

mainstream economy and the monetary policy fails to control it.

6. Time Lag Affects Success of Monetary Policy

The success of the monetary policy depends on timely implementation of it. However, in

many cases unnecessary delay is found in implementation of the monetary policy. Or many

times timely directives are not issued by the central bank, then the impact of the monetary

policy is wiped out.


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LIMITATIONS OF FISCAL POLICY:

1.Lack of Elasticity: - In countries like India tax system is not that elastic as it is supposed

to be. Moreover in these economies because of huge tax evasion, it is difficult to earn

revenue from taxes. The spread of tax is very few.

2. Non Monetised Sector: - Although each and every activity is now awarded in terms of

money, but still a major part of economy of UDC's like India is not monetised. In this part

fiscal policy remains unaffected.

3. Inadequate Statistics: - In the countries like India adequate and reliable date is not

available. Because of non-availability of reliable and accurate data, the area of fiscal policy

remains unaffected.

4. Illiteracy: - Most of the population of India is either illiterate or not in a position to

understand economic policies and is implications, that is why they are not able to evaluate

the importance of fiscal policy and, therefore, they also try to evade taxes.

5. Limited Sector: - Fiscal policy only affects a few sectors of the economy. Most of the

sectors remain untouched e.g. burden of taxes on salaried person whereas big businessmen

hardly pay any taxes in spite of high income levels.

6. Delay in decision: - Fiscal policy decision needs approval by the Government. A lot of

time required for approvals, that is why decisions are not taken at proper time.

7. Limitations regarding full employment: - As a result of fiscal policy in connection

with full employment wage rate increases. Increases in wage rate results into increase in

prices instead of increase in production. Employment multiplier decreases and desired

increase in employment does not take place. Structural unemployment cannot be tackled by

fiscal policy.

8. Defective Tax Structure: - The country been relying more on indirect taxes ultimately

affecting poor persons. Contribution to direct taxes has been declining and that of indirect

taxes rising.


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9. Inflation: - As a result of increase of public expenditure on non-development heads and

deficit financing pull inflation has taken place. Also high rate of indirect taxes has resulted

in cost push inflation. High rate of direct taxes and increase of black money in the country

has given rise to parallel economy and increase in inflation.

10. Huge investment with negative return in public sector: - Huge investments in public

sector have become sunk money now because of failure of public sector. Investment of

Rs.2,04,054crore was made in public sector enterprises in 1998 and Rs.3,03,400 crore in

2001. Return on this investment has been very low. Also takeover of sick textile mills by

government has further increased public expenditure. Huge amount has to be spent to keep

such undertakings going thus making the resources of country scarce.


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ROLE OF MONETARY POLICY IN ECONOMIC DEVELOPMENT:

The role of monetary policy in economic development may be discussed under the

following lines of approach:

Appropriate Adjustment between Demand for and Supply of money

Price Stability

Credit Control

Creation and Expansion of Financial Institutions

Suitable Interest Rate Structure

Debt Management

Monetary policy can play a vital role in the economic development of underdeveloped

countries by minimizing fluctuations in prices and general economic activity by achieving

an appropriate balance between the demand for money and supply of money. Because,

economic development result in increase in more demand for money and it makes

imperative for the monetary authority to increase the money supply but either more or less

money supply than the requirement result in fluctuations in an economy. Therefore, the gist

of the argument is that a proper control upon the supply of money will prevent economic

fluctuations and pave the way for rapid development of underdeveloped economies.

In the process of economic development, it is unavoidable an increase in prices. Therefore

it is imperative for the monetary authority for maintenance of stability in the domestic level

of prices and exchange rates. The inflationary trend in price negatively affects the savings

and diverts investment into unproductive channels. It is the duty to have a vigil by the

monetary authority not only to regulate but also should keep constant heck on the direction

of money flow in turn to control price rise. The same inflationary trend will also adversely

affect international trade and the foreign exchange earnings which otherwise could help in

the development of the country. Thus, monetary policy should adopt such policy, which

will check inflation and frequent devaluation of the currency.

Monetary authority should also employ quantitative and qualitative credit control tools for

the control of inflation, correction of adverse balance of payments and help the process of


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economic development. Not only that, with these instruments, it can influence and shape

the character and pattern of investment and production, in particular selective credit control,

unlike quantitative credit control, makes a discrimination between essential and non-

essential uses of bank credit and help the funds to flow into desirable and uses without

affecting the economy as a whole. This will quicken the pace of economic development.

The process of economic development can speed up by establishing more and more

financial institutions by developing financial system. These institutions are in less number

in underdeveloped economies, therefore, it is difficult to mobilize the savings from the

public effectively for economic development and consequently economic growth rate is

very low. Monetary authority to extend the sphere of the monetary sector with the

expansion of co-operative banking sector to meet the credit needs of ruralites and cut the

tentacles of non-magnetized sector in rural areas.

There are two subcomponents of monetary policy: cheap and dear money policy. Cheap

money policy in other words availability of funds at lower rates of interest to stimulates

investment both public and private. Thus, a policy of low interest rates serves as an

incentive to investment for economic development. But there is harm if these funds are

diverted for hoarding and stockpiling and for other speculative purposes, thus monetary

authority should be checked through selective credit controls and thereby directing

investment into desirable channels. In contrary to low rates of interest policy, there are

economists who suggest a policy of high interest rates to control inflationary conditions.

Further they stated that it would stimulate savings and thus increase the supply of

investable resources; it would secure the allocation of scarce resources into most productive

uses. Therefore, keeping in view the conditions in an economy, countries should be more

pragmatic in their approach and must evolve differentiated interest rate policy, which

ensure rapid pace of economic development.

ROLE OF FISCAL POLICY IN ECONOMIC DEVELOPMENT:


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K Kurihara regards fiscal policy as a “desiderate for underdeveloped countries lacking in

private initiative, private voluntary saving and private innovation”. He discusses the fiscal

policy of government as an additional saver, an investor and an income redistributors. He

observes as par as underdeveloped economy is concerned, budgetary surplus is the relevant

position to be achieved and maintained. As an additional investor, government can increase

the productive capacity of the economy and secure an accelerated rate of economic growth

by changing the pattern of investment and laying emphasis on capacity creating rather than

on income-generating aspects. As an innovator, the government should spend on research

and experimentation and stimulate innovations and new techniques of production. As an

income redistributors and for that fiscal measures can go a long way in reducing economic

inequalities. In the words of Nurkse, fiscal policy assumes a new significance in he face of

the problem of capital formation in underdeveloped countries”

The fiscal policy should be construed as to secure full employment conditions and

economic growth at rapid rate. The integration of the government budgets with the nation’s

economy budgets can go a long way for the attainment of the objectives of rapid economic

development and creation of full employment opportunities. We now proceed to discuss the

role of fiscal policy instruments role in economic development

Taxation: Of the important sources of public revenue taxation is the most important.

Through taxation, governments are collecting from 10- 30 percent levels to the national

income in developed countries. Shortage of financial resources is the main obstacle in the

way of economic development of the underdeveloped countries. There are certain forces

operating in these countries, which increase consumption and reduce savings. The first

among them is the population pressure. Besides, the high incomes groups spend much

of their incomes on conspicuous consumption and their propensity to consume is

further reinforced by the ‘demonstration effect’ Still worse, a large part of the meager

savings is dissipated in unproductive channels like real estate, hoarding, gold, jewellery,

speculation, etc the taxation measures can be employed effectively to divert savings of the

people into productive channels. In this connection, Report of the Taxation Enquiry

Commission, Govt of India, observes, “A tax system which on the whole, promotes capital

formation in its two aspects of saving and investment fulfills an essential desideratum.


27

Public Borrowing: There is a limit to which taxation can be resorted for resource

mobilization. If the taxes are excessive, they will adversely affect people’s desire and

ability to work, save and invest. This will obviously retard the paced of economic

development. To avoid such a situation, public borrowing may cover the gap in resources

required. It will not adversely affect people’s desire to work, save and invest as lending is

voluntary n the lenders not only get back the amount lent but also earn interest on it.

Further, public borrowing may add to the incentives of the people to save and invest moreas

he lure of earning more interest on lending is there. Public borrowing has its own

limitations. The general masses are poor and their propensity to consume is high and hence

they have no lending capacity. The rich generally do not like to lend to the government but

instead divert their investive resources into speculative channels as they can earn more

from there. Absence of organized money and capital markets are some of the other

obstacles in the way of public borrowing program. However, government has to do efforts

to compulsory borrowing for economic development. But it may be noted that no

democratic government can rely on forced loans except for a short period and for certain

specified projects. Ultimately, it is the voluntary lending by the people that matters and the

government must be prepared to increase its domestic borrowing when the incomes and

savings of the people increase as a result of economic and make public borrowing and

important tool of resource mobilization.

Public Expenditure: Public expenditure is one of the important weapons in the hands of

the state to secure economic development of underdeveloped economies. Initially for

economic development, infrastructure facilities have to be provided. For which,

government initiation is essential condition. Therefore, government has to spent huge

amount on its development to pave the way to private entrepreneur to start key industries

and also agro- based industries.

TYPES OF MONETORY POLICY


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In practice, to implement any type of monetary policy the main tool used is modifying the

amount of base money in circulation. The monetary authority does this by buying or selling

financial assets (usually government obligations). These open market operations change

either the amount of money or its liquidity (if less liquid forms of money are bought or

sold). The multiplier effect of fractional reserve banking amplifies the effects of these

actions.

Constant market transactions by the monetary authority modify the supply of currency and

this impacts other market variables such as short term interest rates and the exchange rate.

The distinction between the various types of monetary policy lies primarily with the set of

instruments and target variables that are used by the monetary authority to achieve their

goals.

The different types of policy are also called monetary regimes, in parallel to exchange rate

regimes. A fixed exchange rate is also an exchange rate regime; The Gold standard results

in a relatively fixed regime towards the currency of other countries on the gold standard

and a floating regime towards those that are not. Targeting inflation, the price level or other

monetary aggregates implies floating exchange rate unless the management of the relevant

foreign currencies is tracking exactly the same variables (such as a harmonized consumer

price index).

1.Inflation targeting

Under this policy approach the target is to keep inflation, under a particular definition such

as Consumer Price Index, within a desired range.

The inflation target is achieved through periodic adjustments to the Central Bank interest

rate target. The interest rate used is generally the interbank rate at which banks lend to each

other overnight for cash flow purposes. Depending on the country this particular interest

rate might be called the cash rate or something similar.The interest rate target is maintained

for a specific duration using open market operations. Typically the duration that the interest

rate target is kept constant will vary between months and years. This interest rate target is

usually reviewed on a monthly or quarterly basis by a policy committee.


29

Changes to the interest rate target are made in response to various market indicators in an

attempt to forecast economic trends and in so doing keep the market on track towards

achieving the defined inflation target. For example, one simple method of inflation

targeting called the Taylor rule adjusts the interest rate in response to changes in the

inflation rate and the output gap. The rule was proposed by John B. Taylor of Stanford

University. The inflation targeting approach to monetary policy approach was pioneered in

New Zealand. It is currently used in Australia, Brazil, Canada, Chile, Colombia, the Czech

Republic, Hungary, New Zealand, Norway, Iceland, India, Philippines, Poland, Sweden,

South Africa, Turkey, and the United Kingdom.

2.Price level targeting

Price level targeting is similar to inflation targeting except that CPI growth in one year over

or under the long term price level target is offset in subsequent years such that a targeted

price-level is reached over time, e.g. five years, giving more certainty about future price

increases to consumers. Under inflation targeting what happened in the immediate past

years is not taken into account or adjusted for in the current and future years.

Uncertainty in price levels can create uncertainty around price and wage setting activity for

firms and workers, and undermines any information that can be gained from relative prices,

as it is more difficult for firms to determine if a change in the price of a good or service is

because of inflation or other factors, such as an increase in the efficiency of factors of

production, if inflation is high and volatile. An increase in inflation also leads to a decrease

in the demand for money, as it reduces the incentive to hold money and increases

transaction costs and shoe leather costs.

3.Monetary aggregates

In the 1980s, several countries used an approach based on a constant growth in the money

supply. This approach was refined to include different classes of money and credit (M0, M1

etc.). In the USA this approach to monetary policy was discontinued with the selection of

Alan Greenspan as Fed Chairman.

This approach is also sometimes called monetarism.


30

While most monetary policy focuses on a price signal of one form or another, this approach

is focused on monetary quantities.

4.Fixed exchange rate

This policy is based on maintaining a fixed exchange rate with a foreign currency. There

are varying degrees of fixed exchange rates, which can be ranked in relation to how rigid

the fixed exchange rate is with the anchor nation.Under a system of fiat fixed rates, the

local government or monetary authority declares a fixed exchange rate but does not actively

buy or sell currency to maintain the rate. Instead, the rate is enforced by non-convertibility

measures (e.g. capital controls, import/export licenses, etc.). In this case there is a black

market exchange rate where the currency trades at its market/unofficial rate.

Under a system of fixed-convertibility, currency is bought and sold by the central bank or

monetary authority on a daily basis to achieve the target exchange rate. This target rate may

be a fixed level or a fixed band within which the exchange rate may fluctuate until the

monetary authority intervenes to buy or sell as necessary to maintain the exchange rate

within the band. (In this case, the fixed exchange rate with a fixed level can be seen as a

special case of the fixed exchange rate with bands where the bands are set to zero.)

5.Gold standard

The gold standard is a system under which the price of the national currency is measured in

units of gold bars and is kept constant by the government's promise to buy or sell gold at a

fixed price in terms of the base currency. The gold standard might be regarded as a special

case of "fixed exchange rate" policy, or as a special type of commodity price level

targeting.The minimal gold standard would be a long-term commitment to tighten monetary

policy enough to prevent the price of gold from permanently rising above parity. A full

gold standard would be a commitment to sell unlimited amounts of gold at parity and

maintain a reserve of gold sufficient to redeem the entire monetary base.

Today this type of monetary policy is no longer used by any country, although the gold

standard was widely used across the world between the mid-19th century through 1971.Its

major advantages were simplicity and transparency. The gold standard was abandoned

during the Great Depression, as countries sought to reinvigorate their economies by


31

increasing their money supply. The Bretton Woods system, which was a modified gold

standard, replaced it in the aftermath of World War II. However, this system too broke

down during the Nixon shock of 1971.

The gold standard induces deflation, as the economy usually grows faster than the supply of

gold. When an economy grows faster than its money supply, the same amount of money is

used to execute a larger number of transactions. The only way to make this possible is to

lower the nominal cost of each transaction, which means that prices of goods and services

fall, and each unit of money increases in value. Absent precautionary measures, deflation

would tend to increase the ratio of the real value of nominal debts to physical assets over

time. For example, during deflation, nominal debt and the monthly nominal cost of a fixed-

rate home mortgage stays the same, even while the dollar value of the house falls, and the

value of the dollars required to pay the mortgage goes up. Mainstream economics considers

such deflation to be a major disadvantage of the gold standard. Unsustainable (i.e.

excessive) deflation can cause problems during recessions and financial crisis lengthening

the amount of time an economy spends in recession. William Jennings Bryan rose to

national prominence when he built his historic (though unsuccessful) 1896 presidential

campaign around the argument that deflation caused by the gold standard made it harder for

everyday citizens to start new businesses, expand their farms, or build new homes.

Policy of various nations

Bangladesh - Inflation targeting

Australia – Inflation targeting

Brazil – Inflation targeting

Canada – Inflation targeting

Chile – Inflation targeting

China – Monetary targeting and targets a currency basket

Czech Republic – Inflation targeting

Colombia – Inflation targeting

Hong Kong – Currency board (fixed to US dollar)

India – Multiple indicator approach

New Zealand – Inflation targeting

Norway – Inflation targeting


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TYPES OF FISCAL POLICY

Fiscal policy is the deliberate adjustment of government spending, borrowing or taxation to

help achieve desirable economic objectives. It works by changing the level or composition

of aggregate demand (AD).

There are two types of fiscal policy, discretionary and automatic.

1. Discretionary policy refers to policies that are implemented through one-off policy

changes.

2. Automatic stabilisation, where the economy can be stabilised by processes called fiscal

drag and fiscal boost.

Central government borrowing

Government must borrow if its revenue is insufficient to pay for expenditure - a situation

called a fiscal deficit. Borrowing, which can be short term or long term, involves selling

government bonds or bills. Bonds are long term securities that pay a fixed rate of return

over a long period until maturity, and are bought by financial institutions looking for a safe

return. Treasury bills are issued into the money markets to help raise short term cash, and

last only 90 days, whereupon they are repaid.

Local government borrowing

If the revenue from the council tax and central government support is insufficient to meet

spending commitments, local authorities can also borrow by issuing bonds. Only around

25% of local authority spending is financed by local revenue raising, 75% coming from

central government and by borrowing. (Source: Local Government Association)

Public Sector Net Borrowing

If the borrowing requirements of both central and local government is combined, the

amount of borrowing required is called the public sector net borrowing (PSNB). The need

to borrow varies considerably with the business cycle.


33

During periods of economic growth, tax yields rise and spending on welfare payments fall,

pushing the public finances towards a surplus. During periods of economic slowdown, tax

yields fall and welfare payments rise, pushing the economy towards a fiscal deficit.

In 2009, the government introduced a new measure of public sector borrowing, called

Public Sector Net Borrowing Ex (PSNBEx). This measure excludes payments to the

financial sector to ease the credit crisis.

The Chancellor’s golden rules for borrowing

The Chancellor’s golden rules for sustainable investment are firstly, to balance the books

over a trade cycle, and secondly, only to borrow to fund capital projects, such as road

building.

Borrowing, and the financial crisis

According to the Institute for Fiscal Studies (IFS), the central government net borrowing

requirement in 2009, of approximately £150b, was almost double initial estimates. The

main reason for this overshoot was the rescue package for the banking sector, following the

global financial crisis.

This package included:

1. £37b for re-capitalisation of the main banks, RBS, Lloyds and HBOS.

2. £21b to the Bank of England to help refinance the financial services sector.

Fiscal deficits and the National Debt

Fiscal deficits occur when the revenue received by a government is less than spending

during a financial year. These deficits will create the need to borrow by selling government

securities - bills and bonds.


34

CHAPTER-3

SUMMARY AND CONCLUSION

The consensus assignment suggests that monetary policy, if it is unconstrained by zero

bound or other concerns, should look after business cycle stabilisation and inflation control,

and fiscal policy should focus on the control of government debt or deficits. Compared to a

fully optimal monetary-fiscal regime, fiscal policy is restricted to only focus on debt, and

monetary policy is restricted not to respond to debt. Research on monetary and fiscal policy

interactions has been dominated in the last 5-10 years by the convergence of two,

previously distinct literatures: studies of dynamic optimal taxation and New Keynesian

analysis. This paper has examined what this new research implies for the consensus

assignment.

The paper looked at various analyses of monetary and fiscal policy in sticky price

economies which imply that the costs of excluding fiscal policy from business cycle

stabilisation are very small. Large differences across the models used, particularly in terms

of the instruments employed and shocks considered rule out many explanations for this

result. Instead, we argue that the basic structure of New Keynesian models implies that

monetary policy dominates fiscal policy as a means of controlling inflation. This is the case

even when monetary policy cannot eliminate the inflationary consequence of shocks,

following cost push shocks for example. As a result, justifications of this aspect of the

conventional assignment do not need to appeal to political economy or institutional

constraints on fiscal actions.

At first sight the new literature also suggests that the costs of preventing monetary policy

from reacting to debt are small. However this may be predicated on a particular feature of

this literature, which is that under commitment it is optimal to let debt follow a random

walk, or adjust debt very gradually. As shocks to debt are largely accommodated in this

case, there is very little scope for monetary policy to control debt. However, there are a

number of reasons for also looking at cases where debt is required to return to its pre-shock

level more aggressively, which would be a feature of the time consistent policy for

example. In that situation, and if initial levels of debt are high, it may be that changes in

interest rates are an efficient method of controlling debt. Monetary policy can both

influence debt and stabilise inflation by exploiting the forward looking nature of


35

consumption and pricing behaviour. In this case, debt stabilisation biases or political

economy concerns related to deficit bias may be critical in justifying this half of the

consensus assignment.


36

REFRENCES:

BIBLIOGRAPHY

EPW (Economic & political Weekly).Economics of global trade and finance(Johnson).Michal waz (marvel publication).

WIBLOGRAPHY

www.wikipedia.com.www.google.com.


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