INTEREST-RATE TARGETING - CRITICAL ROLE OF FISCAL STANCE

This paper examines the relationship between budget deficits, money cr eation and debt financing which suggests that interest rate targeting and inflation control are both monetary and fiscal policy issues. It t hen formalises these: links within an analytical framework which, by h ighlighting the concept of the 'high-interest trap', suggests that, fo r any given deficit, there exists optimal levels of monetisation and m arket borrowings. The model is then applied to evaluate the implicatio ns of the Union Budget 1998-99 and the results indicate that unless go vernment borrowings are reduced substantially, the inflation rate woul d be much higher than what the fundamentals require it to be.