Abstract

The study tries to uncover the relationship between fiscal deficits and real interest rates using theVector Auto Regressive Model. The relationship is estimated using three variants of nominalinterest rates. It results suggest that the direction of causality runs from real interest rates to fiscaldeficit. Further, there is no financial crowding out effect in case of India .Hence, the argument ofpublic expenditure crowding out private investment by making borrowing more expensive cannotbe used as argument for cutting down on the much needed investments in various publicinfrastructure. The findings also indicate that it is difficult to isolate the effect of fiscal deficit from other influences in theeconomy.

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