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Mittal School of Business Faculty of MBA

Name of the faculty member: Dr. Sakshi

Course Code: ECOM525 Course Title: Managerial Economics
Academic Task No: 2 Academic Task Title: Monetary and fiscal
policy
Date of Allotment: 20-2-2025 Date of Submission: 3-3-2025
Student Roll No: B56, B57, B58 Student Reg. No: 12405831, 12405028
Term: 3 Section: Q2442
Max. Marks: 30 Marks. Obtained:
Evaluation Parameters

Declaration:
I declare that this Assignment is my work. I have not copied it from any other students’
work or from any other source except where due acknowledgement is made explicitly in
the text, nor has any part been written for us by any other person.

Student’ Signature:
Kangjam / Manthan /Aniket

Evaluation Criterion: Base on the rubrics with different parameters

Evaluator’s Comments (For Instructor’s use only)
General Observations Suggestions for Improvement Best part of assignment

Evaluator’s Signature and Date:

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PEER RATING
Name Regn. No Rating out of
10
Kangjam Unbihalba Meitei 12405831 10

Manthan 12405028 10
Aniket - -

CONTEXT

Sl. No Title Page No.

1 Introduction 3

2 Concept of monetary and fiscal policy 4-6

3 Interplay between monetary and fiscal policy 6-7

4 Linking of demand and supply concept with monetary and fiscal 8-10
policy

5 Practical application 11

6 Conclusion 12

7 References 12
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“MONETARY POLICY AND FISCAL POLICY OF INDIA”

INTRODUCTION

Monetary policy and fiscal policy are two influential instruments that central banks and
governments employ to control the economy of a nation. In India, these policies have a
significant influence on economic growth, inflation, and stability. Monetary policy, which is
handled by the Reserve Bank of India (RBI), deals with controlling the money supply, interest
rates, and inflation. Conversely, fiscal policy, which is in the control of the government,
encompasses the choice of expenditure, taxation, and borrowing. All these policies together
determine the manner in which the economy works and how the resources are utilized.

The monetary and fiscal policy are interlinked in a delicate manner. While monetary policy
stabilizes prices and fosters growth by varying interest rates and money supply, fiscal policy
seeks to correct problems such as unemployment, inequality, and public welfare through
government expenditure and taxation. When the two policies operate in tandem, they can
achieve a balanced and prosperous economy. But when they are not harmonious, they can cause
issues such as inflation, excessive debt, or sluggish growth.

This paper investigates the notions of monetary and fiscal policy, the way they function, and
the relationship of their workings with the fundamental economic dynamics of demand and
supply. Demand and supply are the building blocks of any economy, setting the prices,
producing, and consumption levels. An understanding of the way monetary and fiscal policies
can affect demand and supply can serve to analyse how they work upon India's economy. For
instance, when the RBI reduces interest rates, borrowing costs come down, thus stimulating
demand for goods and services. Again, when the government raises infrastructural spending, it
can improve demand and supply by generating jobs and enhancing productivity.

The aim of this report is to present a simple and concise explanation of how fiscal and monetary
policies function in India, how they interact with each other, and how they influence the
economy through the framework of demand and supply. At the end, we hope to provide insights
into how these policies can be employed in a useful manner to tackle economic issues and
foster sustainable growth
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CONCEPT OF MONETARY AND FISCAL POLICY

Monetary Policy

Monetary policy is the intervention of a nation's central bank (in India, the Reserve Bank of
India or RBI) to regulate the money supply and interest rates in an economy. The central aim of
monetary policy is price stability (to curb inflation) along with fostering economic growth and
employment.

Objectives of Monetary Policy

1. High inflation erodes purchasing power, making goods and services more expensive.
The RBI uses monetary tools to keep inflation within a target range.

2. To influences borrowing and spending by adjusting interest rates.

3. To maintaining Exchange Rate stability by intervening the foreign exchange market

and preventing excessive fluctuations in the value of the Indian rupee.

4. To ensure financial stability as RBI monitors and regulates the banking system to
prevent crises and maintain confidence.

Tools of Monetary Policy

1. Repo Rate: The rate at which the RBI lends to commercial banks. A lower repo rate
makes borrowing cheaper, encouraging businesses and consumers to take loans and
spend more. Current repo rate – 6.25%

2. Reverse Repo Rate: The rate at which the RBI borrows from commercial banks. A
higher reverse repo rate incentivizes banks to park their funds with the RBI, reducing
the money supply in the economy. Present reverse repo rate – 3.35%

3. Cash Reserve Ratio (CRR): The percentage of deposits that banks must keep with the
RBI. A higher CRR reduces the amount of money banks can lend, tightening the money
supply. Current CRR is 4%

4. Open Market Operations (OMO): The RBI buys or sells government securities to
inject or absorb liquidity from the economy.
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For example –

During the COVID-19 pandemic, the RBI adopted an expansionary monetary policy to support
the economy. It slashed the repo rate to a historic low of 4% and injected liquidity into the
banking system. This made borrowing cheaper for businesses and individuals, encouraging
spending and investment. These measures helped prevent a deeper economic downturn and
supported recovery.

Fiscal Policy –

Fiscal Policy is the use of government expenditures and taxes to affect the economy. The
government (in India, the Ministry of Finance) implements it and aims at securing wider
economic goals such as growth, employment, and income distribution.

Objectives of Fiscal Policy

1. To ensure economic growth by increasing spending on infrastructure, education, and

healthcare.

2. To reduce income inequality and support vulnerable populations through progressive

taxation and welfare programs

3. To counteract economic fluctuations, such as recessions or inflationary pressures.

4. To ensure long-term fiscal sustainability by balancing government’s spending and

borrowing.

Tools of Fiscal Policy

1. Government Spending: Investments in public projects like roads, schools, and

hospitals directly boost demand and create jobs.

2. Taxation: Taxes are used to generate revenue and influence behaviour. For example,
higher taxes on luxury goods can reduce their consumption, while tax cuts for
businesses can encourage investment.

3. Subsidies and Transfers: The government provides financial support to specific

sectors (e.g., agriculture) or populations (e.g., low-income families) to promote equity
and growth.
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4. Public Debt: The government borrows to finance budget deficits, but excessive
borrowing can lead to higher interest rates and debt burdens.

For example –

During the pandemic, the Indian government announced a fiscal stimulus package worth ₹20
lakh crore (approximately $270 billion), equivalent to 10% of India’s GDP. This included direct
cash transfers to poor households, free food grains, and support for small businesses. The
stimulus aimed to boost demand, protect livelihoods, and revive the economy. For instance, the
PM-KISAN scheme provided ₹6,000 annually to farmers, while the MGNREGA program
expanded rural employment opportunities. These measures helped mitigate the economic
impact of the pandemic and supported recovery.

INTERPLAY BETWEEN MONETARY AND FISCAL POLICY

How Monetary and Fiscal Policies Work Together

1. Complementary Roles in Economic Stabilization

Monetary and fiscal policies often work together to stabilize the economy during
periods of recession or inflation. For example:

▪ During a Recession: The central bank may lower interest rates (expansionary
monetary policy) to encourage borrowing and spending, while the government
increases spending or cuts taxes (expansionary fiscal policy) to boost demand.

▪ During Inflation: The central bank may raise interest rates (contractionary
monetary policy) to reduce spending, while the government cuts spending or
raises taxes (contractionary fiscal policy) to cool down the economy.

2. Conflicts and Challenges

While coordination between the two policies is ideal, conflicts can arise. For instance:

▪ Crowding Out Effect: Excessive government borrowing to finance fiscal

deficits can lead to higher interest rates, reducing private investment and
undermining the effectiveness of expansionary monetary policy.
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▪ Policy Lag: Fiscal policy changes often require legislative approval, causing
delays. In contrast, monetary policy can be adjusted more quickly by the central
bank.

For example – As the Indian economy recovered from the pandemic, inflation began to rise
due to supply chain disruptions and higher global commodity prices (e.g., crude oil and edible
oils). The interplay between monetary and fiscal policies was crucial in addressing this
challenge.

Monetary policy – The RBI shifted to a contractionary monetary policy to curb inflation. RBI
rise the repo rate from 4% in May 2022 to 6.5% by February 2023. Increased the cash reserve
ratio (CRR) to absorb excess liquidity from the banking system.

Fiscal Policy – The government also took targeted fiscal measures to address supply-side issues
and ease the burden on consumers. They reduce excise duties on petrol and diesel to lower fuel
prices. Provide subsidies on fertilizers and cooking gas to control input costs for farmers and
households. Moreover, government impose export restrictions on essential commodities like
wheat and rice to ensure domestic availability.

Interplay: The combination of contractionary monetary policy and targeted fiscal measures
helped bring inflation under control. By mid-2023, inflation had moderated to around 5.5%,
within the RBI’s target range of 2-6%.

LINKING MONETARY AND FISCAL POLICY WITH DEMAND AND

SUPPLY

How Monetary Policy Affects Demand and Supply

Monetary policy influences demand by adjusting interest rates and the money supply.

This is how it works –

1. Impact on Demand: When the RBI lowers interest rates (expansionary monetary
policy), borrowing becomes cheaper. This encourages businesses to invest in new
projects and consumers to spend on homes, cars, and other goods. As a result, demand
increases.
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For example, during the COVID-19 pandemic, the RBI slashed the repo rate to 4%,
making loans cheaper. This boosted demand for housing and consumer goods, helping
the economy recover.

2. Impact on Supply: Lower interest rates also make it easier for businesses to borrow
money for expansion. This can increase supply as companies invest in new factories,
technology, and infrastructure. However, if demand grows too quickly (due to low
interest rates), it can outpace supply, leading to inflation. For instance, in 2022, high
demand for goods after the pandemic, combined with supply chain disruptions, caused
inflation to rise above 6%.

How Fiscal Policy Affects Demand and Supply

Fiscal policy, managed by the government, influences both demand and supply through
spending and taxation. Here’s how:

1. Impact on Demand: When the government increases spending (expansionary fiscal

policy), it directly boosts demand. For example, building roads, schools, and hospitals
creates jobs and income, which increases people’s purchasing power.

During the pandemic, the Indian government announced a ₹20 lakh crore stimulus
package, including cash transfers and free food grains. This increased demand by
putting money in the hands of consumers.

2. Impact on Supply: Government spending on infrastructure, education, and technology

can also increase supply by improving productivity. For example, better roads and ports
reduce transportation costs, making it easier for businesses to produce and distribute
goods.

Similarly, subsidies for farmers or industries can boost production. For instance,
fertilizer subsidies help farmers grow more crops, increasing the supply of food.
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The Interplay of Demand and Supply

The laws of demand and supply explain how monetary and fiscal policies affect the economy:

• Law of Demand: When prices fall, demand increases, and vice versa. For example,
lower interest rates reduce the cost of borrowing, increasing demand for loans and
spending.

• Law of Supply: When prices rise, producers are willing to supply more, and vice versa.
For example, higher government spending on infrastructure can reduce production
costs, encouraging businesses to supply more goods.

Demand and Supply in Action

1. Inflation and Interest Rates (2020-2023)

Year Inflation (%) Repo Rate (%) Fiscal Policy Actions

2020 6.2 4.0 Stimulus package, cash transfers
2021 5.1 4.0 Continued fiscal support
2022 6.7 6.5 Fuel tax cuts, subsidies
2023 5.5 6.5 Targeted fiscal measures
Source: Reserve Bank of India, Ministry of Finance

The data shows how expansionary policies during the pandemic boosted demand, while supply
chain disruptions caused inflation. Later, contractionary monetary policy and targeted fiscal
measures helped stabilize prices.

2. GDP Growth and Policy Measures (2020-2023)

Year GDP Growth (%) Monetary Policy Stance Fiscal Policy Stance
2020-2021 -6.6 Expansionary Expansionary (Stimulus)
2021-2022 8.7 Expansionary Expansionary (Stimulus)
2022-2023 6.5 Contractionary Targeted Fiscal Measures
Source: Reserve Bank of India, Ministry of Finance

The data highlights how coordinated monetary and fiscal policies helped India recover from
the pandemic-induced recession.
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Visualizing Demand and Supply

Chart 1: Impact of Expansionary Policies on Demand

Lower interest rates and increased government spending shift the demand curve to the right,
leading to higher output and prices.

Chart 2: Impact of Contractionary Policies on Demand

Higher interest rates and reduced government spending shift the demand curve to the left,
leading to lower output and prices.
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PRACTICAL APPLICATION AND RELATING CONCEPTS TO THE

REAL WORLD
1. COVID-19 Pandemic: A Test of Policy Coordination

The COVID-19 pandemic was one of the most significant challenges for India’s economy.
Lockdowns brought economic activity to a standstill, and millions lost their jobs. Both
monetary and fiscal policies were used aggressively to revive the economy.

• Monetary Policy in Action: The RBI slashed the repo rate to a historic low of 4% and
injected liquidity into the banking system. This made loans cheaper, encouraging
businesses to borrow and invest. For example, home loan EMIs dropped, leading to a
surge in demand for housing. The RBI also allowed a moratorium on loan repayments,
providing relief to borrowers.

• Fiscal Policy in Action: The government announced a ₹20 lakh crore stimulus package,
including direct cash transfers, free food grains, and increased spending on rural
employment under MGNREGA. For instance, the PM-KISAN scheme provided ₹6,000
annually to farmers, while free food grains reached 800 million people. These measures
put money in people’s hands, boosting demand.

• Result: The combined effect of these policies helped India recover from a severe
economic contraction. GDP growth rebounded from -6.6% in FY 2020-21 to 8.7% in
FY 2021-22.

2. Tackling Post-Pandemic Inflation

As the economy recovered, inflation became a major concern. Rising global commodity prices
and supply chain disruptions pushed inflation above the RBI’s target range of 2-6%. Here’s
how monetary and fiscal policies were used to address this:

• Monetary Policy in Action: The RBI raised the repo rate from 4% in May 2022 to
6.5% by February 2023. This made borrowing more expensive, reducing demand and
cooling down inflation. For example, higher interest rates led to a slowdown in housing
loans, which helped stabilize real estate prices.

• Fiscal Policy in Action: The government reduced excise duties on petrol and diesel,
lowering fuel prices. It also provided subsidies on fertilizers and cooking gas to ease
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the burden on households. For instance, the Ujjwala Yojana provided subsidized LPG
cylinders to low-income families, helping them cope with rising energy costs.

• Result: These measures helped bring inflation down from 7.8% in April 2022 to 5.5%
by mid-2023, within the RBI’s target range.

CONCLUSION

In conclusion, monetary and fiscal policies are indispensable tools for managing India's
economic stability and growth. The Reserve Bank of India's monetary policy, through its
control over interest rates and money supply, plays a crucial role in regulating inflation and
fostering economic growth. Simultaneously, the government's fiscal policy, through its
spending and taxation decisions, directly influences aggregate demand and economic activity.

The interplay between these policies is vital for achieving macroeconomic objectives. For
example, during economic downturns, a coordinated approach involving expansionary fiscal
policy and accommodative monetary policy can stimulate demand and revive growth.
Conversely, during periods of high inflation, contractionary measures can help stabilize prices.

Understanding the relationship between these policies and the principles of demand and supply
provides valuable insights into their effectiveness. By carefully balancing monetary and fiscal
measures, India can navigate economic challenges and sustain long-term growth. As the global
economic environment continues to evolve, the adaptability and coordination of these policies
will remain crucial for India's economic resilience and prosperity.

REFERENCES

1) Government of India. (2023). Economic Survey 2022-23. Ministry of Finance.

https://www.indiabudget.gov.in/economicsurvey/
2) https://pib.gov.in/PressReleasePage.aspx?PRID=1656925
3) https://www.goodreturns.in/classroom/the-role-of-fiscal-and-monetary-policy-in-post-
covid-economic-recovery-1392769.html
4) https://www.investopedia.com/ask/answers/100314/whats-difference-between-
monetary-policy-and-fiscal-policy.asp