Economic Models - Convex Optimization

Time Varying Responses 57
4. Policy Analysis
The dynamics of the monetary and fiscal policy are analyzed in terms of
the analysis of the dynamic response-multipliers and their relationship with
the monetary-fiscal policy regimes. The response-multiplier of the system
will move over time within an adaptive control framework (Tables 1–6).
The movements of the coefficients response of response-multipliers in a
monetary policy framework are described below. It is essential that for the
stability of the control system, these dynamics of the response-multiplier
should be slow (Das and Cristi, 1990; Tsakalis and Ioannou, 1990).
Analysis of the response-multipliers shows that devaluation would have
negative effect on the national income, devaluation would also have negative
effect on the government bond sales, CD, interest rate, and money
demand. This is due to the fact that Indian exports may not be that elastic
in response to devaluation, whereas devaluation will reduce import abilities
significantly. As a result, national income and domestic activity would
have negative effects, which would depress the activity of the private sector.
Because of this CD will decline.
Due to the downturn of the economic activity, there will be less demand
for government bonds. Devaluations also can have an inflationary effect due
to increased import costs. Government expenditure, on the other hand, will
have positive effects on every variable. This implies that increased public
expenditure will stimulate the national income and the private sector despite
increased interest rate. However, the increased public expenditure will have
inflationary impacts on the economy at the same time.
Increased tax revenue will depress national income, as it will reduce
government bond sales. Lower level of national income will reduce money
supply and the private sector’s activity, which will be reflected in the reduced
currency to deposit ratio and the reduced level of money demand. Reduced
level of national income, in this case, will have reduced price level but budget
deficit will go up as well because of the reduced demand for government
bonds. Increased rate of central bank’s discount rate will depress national
income and general price level. At the same time, private sector’s activity
will be reduced, as reflected in the CD and money demand, due to increased
rate of interest. Although government bond sales will go up, budget deficit
will be increased due to reduced level of economic activity.
The effect of the central bank discount rate (CI ) on interest rate varies
from 0.061 in period 1 to 0.055 in period 7. This result is primarily due to
the fact that the influence of G (public expenditure) on IR has increased
from 0.003 in period 1 to 0.012 in period 7. If the public expenditure goes