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Introduction: Inclusiveness in Development Strategies and Policies Read chapter Read first chapter

2022 | OriginalPaper | Chapter

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

Author : K. N. Murty

Published in: Perspectives on Inclusive Policies for Development in India

Publisher: Springer Nature Singapore

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Abstract

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.

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Appendix
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Footnotes
1
The preliminary estimates of GDP growth in the economy after ‘demonetization’ seem to conform this.
 
2
A comprehensive review of macroeconometric models and policy modeling for India can be found in Klein and Palanivel (1999), Radhakrishna et al. (2001), Krishnamurty (2002), Pandit and Krishnamurty (2004) and Bhattacharya and Kar (2005). A good review of monetary sector models was provided by Jadhav (1990). There has also been some published work by the author earlier (e.g., Murty & Soumya, 2007, 2011) on macroeconometric model for India, with similar methodology. The bibliography given here is somewhat dated and needs more recent references.
 
3
In present day research, requirement of stationarity of variables in regression equations is a much debated issue. However, this issue is somewhat side stepped in macroeconometric model estimation, because capturing the structure of the economy in level variables and interpretation of the coefficients are considered more important than correcting for non-stationarity of the underlying variables. Further, despite non-stationarity of variables, in simultaneous equation systems, the 2SLS but not the OLS estimators is shown to produce consistent estimates (see, e.g., Hisio, 1997). Since we use 3SLS method, the parameter estimates will be consistent and asymptotically efficient. The author is grateful to Professor V. N. Pandit for bringing this literature to his notice.
 
4
Given the shortness of annual time series data in systems estimation context, estimating regime specific models to address the well-known Lucas critique is somewhat impracticable. For the same reason, testing for stability of coefficients across policy regimes may not be possible either.
 
5
Despite the best efforts to get economically meaningful signs for all coefficients and ‘good’ overall measures of goodness of fit, there are still some worrisome aspects like inappropriate Durbin-Watson statistic for quite some equations. Re-estimation of the model with longer time series may be needed.
 
6
In order to assess the symmetry of impacts for each exogenous variable, both an increase and a decrease in that variable have been attempted separately. It is found that the impacts are numerically identical except for the sign change. Further, the simulation impacts due to different exogenous variables are also fully additive.
 
7
Although, ‘devaluation’ was a bygone policy measure, whose effects were already debated and documented, it is being revisited here for comparative analysis with two other policy instruments, ‘demonetization’ and ‘public investment’ using a common macro econometric model framework.
 
8
Thus, this study seems to re-confirm the presence of inverse ‘J-curve’ in India.
 
9
As per RBI annual report for 2016–17, the Central Bank had issued Rs. 15.44 lakh crores worth of demonetized currency over time. This constituted 87% of total currency in circulation. Post-demonetization, Rs. 15.28 lakh crores, nearly 99% of total demonetized currency has been returned to the Central Bank. It is reported that old notes worth only Rs. 5,000 crores have not been returned back, which probably constitute ‘black money’ and or ‘fake’ currency.
 
10
There has been lot of debate in India since its implementation on the efficacy and impact of ‘demonetization’. In particular, its adverse effect on small-scale industry, petty trade as well as wage earners was much in focus. There were also serious doubts on its modus-operandi, particularly the manipulation made by bankers and big players. Clearly, an aggregate macro model like the present one cannot capture these complex issues.
 
11
Post-demonetization, recent estimates show that the direct tax collections have increased by 17.5% in the first quarter of FY2017-18.
 
12
Despite some possible economic benefits, critics contend that the short-run costs of demonetization totally outweigh the long-run benefits, if any (among others, e.g., Dr. Raghuram Rajan, former Governor, RBI).
 
Literature
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Metadata
Title
Assessing Policy Initiatives to Accelerate Economic Growth: An Illustration Using a Macroeconometric Model for India
Author
K. N. Murty
Copyright Year
2022
Publisher
Springer Nature Singapore
Book
Perspectives on Inclusive Policies for Development in India

Print ISBN: 978-981-19-0184-3

Electronic ISBN: 978-981-19-0185-0

Copyright Year: 2022

DOI
https://doi.org/10.1007/978-981-19-0185-0_7