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http://www.bloomberg.com/news/2013-07-29/rbi-says-restoring-indian-rupee-stability-is-

priority-for-policy.html

ABSTRACTThe study uses data from 2011 to 2013 to analyse the increasing unemployment rate as well

as the chronic inflation problem that India has been persistently facing. The article

highlighted on the key policy objective of the new India Government and the behaviour of

monetary and fiscal policies interaction to put the economy on sustainable and balanced high

growth path.

1.0 INTRODUCTIONOne of the major challenges for India in 2014 is to revive economic growth, as it is currently

caught up in worst economy downturn, a dip of Gross Domestic Product (GDP) to less than

5% in the past decade. Poverty has been a pestering issue, and there is a huge inequalities of

wealth among the citizens. Amidst the variable issues that India is facing, the main reasons

for the plunge in GDP are strained public finances, lack of economic reform and the

persistent high inflation. Hence, it is imperative for the new government to cut expenditures

plans so as to keep public finances in check and to counter price-rise in order to keep

inflation down.

The main focus that this essay will be touching is to address the unemployment and inflation

problems, and the fiscal and monetary policies that the government should be implementing

to resolve the issues.

Monetary policy involves the actions of a government done to change interest rates by

affecting the growth of aggregate demand (AD), inflation and source of funds. Government

introduce such policies to control inflation, maintaining economic growth and managing low

unemployment rate. On the other hand, fiscal policy involves a government’s efforts to

oversee an economy by adjusting its tax rates and distribution of spending. It aims to deter a

boom and bust economic cycle, curb unemployment as well as encouraging economic growth

in a period of recession. It is paramount that countries use a balance of these two policies to

achieve macroeconomic objectives of growth and price stability. However, the use of these

policies will be in compliance to the stage of development of the country’s financial markets.

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2.0 UNEMPLOYMENTIn general, unemployment is a situation when people are constantly and actively seeking

employment opportunities however unsuccessful. (Ramandeep Kaur, 2013)

Despite the economic reforms and the Information Technology (IT) & Business Process

Outsourcing (BPO) boom in 2003, the unemployment situation in India has a constant

increase in recent financial years, between the ages of 15-29 years.

Unemployment rate in India is showing an increasing trend of 3.5% in 2011, and rose to

3.6% in 2012 and escalated to 3.7% last year. (Times of India, 2014)

2.1 CAUSES OF UNEMPLOYMENT IN INDIA1. Insufficient Opportunities

Although the expansion of production has opened up plenty of employment opportunities,

they were not sufficient to solve the unemployment problem. Furthermore, economic growth

in a developing country, such as India, does not necessarily assure that unemployment issue

will be naturally resolved.

2. Increase in Labour Force

India faced an increasing growth in population, notably in undeveloped areas. This rapid

growth in population encouraged unemployment by expanding the labour force, as the rate of

job supply are not as high as population growth would have required. In addition, education

has changed the mentality of women towards employment, resulting in a large capacity of

them joining the job market.

3. Emphasis on Capital Intensive Projects

An increasing importance has been given to capital intensive projects during the process of

planning. In a labour surplus economy, use of automatic machines and other sophisticated

equipment is not justified as it has replaced human effort and resulted in large-scale

unemployment in India.

4. Defective system of education

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India’s education system does not develop human resources properly. It fails to train the

people for the jobs consistent with present economic environment. As a result, even the

highly educated people in India, fail to get appropriate jobs. There is no correlation between

education and employment as far as India planning is concerned.

3.0 INDIA CONTRACTIONARY FISCAL POLICY

India has adopted a contractionary policy to restrain the economy during inflation-inducing

business-cycle expansion, which involves slashing government expenditure and/or increase

of taxation imposed.

This aims to achieve economic equilibrium thus decreasing unemployment and improving

Real Gross Domestic Product (GDP). Contractionary fiscal policy leads to a smaller

government budget deficit (expenditures>tax revenues) or a smaller budget surplus (tax

revenues>expenditures).

3.1 OBJECTIVES OF INDIA FISCAL POLICY1. Development by effective Mobilisation of Resources

Fiscal policy has been implemented by central bank of India to mobilise resources through the different channels as stated below:

Taxation: Taxation is one of the most crucial source of resource in India, which help the government to mobilise the resources more efficiently through fiscal policies.

Public Savings: Resources can be gathered through public savings by decreasing government spending and allow government sectors to raise their surpluses.

Private Savings: Implementation of tax benefits can introduce more resources from corporate firms and households. Fiscal policy effectiveness can be promoted through government borrowings by ways of treasury bills, government bonds, loans from local and overseas parties and by debt financing.

2. Reduction in inequalities of Income and Wealth

By charging more income taxes on higher income group, it reduces income inequalities

among the different society groups, gearing towards equity in income and wealth. Indirect

taxes on high expenses goods, whereby typically can be purchased by the rich. Such

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implementations allow the improvements of poverty ratio in the society in which,

government have focus large investment through Poverty Alleviation Programmes.

3. Price Stability and Control of Inflation

Introduction of tax savings schemes, easing the fiscal deficits and effective use of funds,

benefit inflation control and price stabilization.

4. Employment Generation

Lower taxes on small-scale industries has encourage

Investing in infrastructure has affect employment directly and indirectly. In placement of low

duty taxes allows small-scale industrial to invest more and provide more employment.

Movements such as under developed areas employment programmes has been embarked to

work out employment issues in under-developed regions. Correspondingly, self employment

scheme has been initiated to create job opportunities to qualified persons in the developed

areas.

3.2 EFFECT OF FISCAL POLICY ON AGGREGATE DEMANDAggregate Demand is the combination of Consumption expenditures (C), Investment (I),

Government Expenditure (G) and net exports(X-M)).

That is

Y = C + I + G + (X-M)

Contractionary Policy aims to decrease government expenditure (G), which lower the

aggregate demand curve by downsizing the goods and services required by the government.

The rise in tax levels will result in sluggish growth, as consumers will have less spending

power (C), thereby decreasing the demand curve, shifting the AD Curve to the left.

Amount of potential GDP outstands the real GDP is classified as inflationary gap, and

contractionary policy is devised to narrow the inflationary gap by altering aggregate

expenditures and moving the aggregate demand curve. Inflationary gap is narrowed with a

leftward adjustment of the aggregate demand curve.

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4.0 INFLATION IN INDIA

Inflation rate in India is calculated as per Consumer Price Index (CPI). Recently, the inflation

rate touched 10.92% in 2013, one of the highest in the recent years. The Reserve Bank of

India (RBI)’s current assessment shows that the threshold level of inflation for India ranging

from 4 – 6 %, maintaining inflation within the comfort zone is crucial in facilitating

sustainable growth.

The government has plans to take firm measures in controlling inflation, where it plans to ban

the export of steel and cement which relate to the rising prices. Another measure is to lower

the excise duty on steel from 14% to 18%.

Inflation has caused a significant resistance on Indian economy. Where prices are increasing

rapidly in other countries, exports to other countries became harder for Indian businesses.

Volatility has also seen to increase due to the fast-rising price, companies tend to be more

conservative in making investment in new projects. With a highly inflated economy, the poor

are affected at the worst by rapid increase in price as they tend to hold most of their savings

in cash.

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4.1 CAUSES OF INFLATION IN INDIA

The continuous inflation in India are caused by the lessen demand as well as the cost push

inflation factors. These include the overflowing supply of products and high dependant on

foreign resources such as energy and lax fiscal policy. While a flexible fiscal policy has aid

collective demand, especially under developed areas, it lacks permissive background to

amplify supply, resulting in an additional inflation pressures.

Demand – Pull Factors include, but not limiting to,

a) High Monetary Expansion – Sources of funds are expanding rapidly annually but the

inventory of goods and services is not improving accordance to the rate causing the rise in

prices.

b) Population Growth – Aggregate demand is on the rise due to the increase in population,

which is about 3% in India currently.

c) Black Money – When income tax payers misrepresent their income statements to the tax

authorities, it lead to creation of black money, hence creating more demand.

Demand pull inflation is a result from the changes in the factors of AD. When one of the

factors of AD (consumption, investment, and government expenditure and net exports) goes

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up, aggregate demand goes up as well.

Cost – Push Factors include, but not limiting to,

a) Increase in Indirect Taxation – Leads to increase in prices, hence inflation.

b) Increase in Wages and Bonuses – Leads to increase in cost of production, hence rise in

price, which causes inflation.

When the cost of production rises, it results in cost push inflation, as such, supply by firms

decreases. There will be a left shift of the aggregate supply from SRAS1 to SRAS2, affecting

an increase in the average price level in the market and real output will plunge.

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4.2 INDIA CONTRACTIONARY MONETARY POLICY

As stated by RBI, monetary policy refers to the adoption of different instrument managed by

the central bank to monitor the availability and the use of funds.

The aim is to anchor inflationary expectations, improve real interest rates, increase domestic

savings, thus providing a support for more sustainable growth.

The RBI implements the monetary policy through:

a) Maintaining the Required Reserve Ratio (RRR) – Keeping it unchanged at 4.0 %

( Raghuram G. Rajan, 2013)

b) Open market operations – The RBI sells government securities to contract the flow of

credit

c) Increasing Discount Rate – Hiked to 7.75%

These acts lead to the decrease of excess reserve of commercial banks for loans.

4.3 OBJECTIVES OF INDIA MONETARY POLICY

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1. Growth with Stability

Conventionally, India was focusing on controlling inflation by decreasing funds, which

contributed to poor economy. Thus, RBI recently implemented the “Growth with Stability”

policy. This means that sufficient source of funds are available for expansion of different

industries in the economy, concurrently, inflation will be sustained within expected range.

2. Encouraging Savings and Investments

By offering better interest rates to encourage savings, increases the availability of funds and

promotes investment. Promoting of subjective monetary direction by implementing attractive

interest rates can affect the saving patterns in the country.

3. Redistribution Of Income And Wealth

Controlling fluctuations of inflation and redeployment credits to under developed sectors,

especially poverty areas, by initiating monetary policy to promote better balance of

inequalities.

4. Generation of Employment

The increase in the rate of investment and allocation of investment due to the influence of

monetary policy, help with generating more employment.

5. Promoting Priority Sector

This sector emphasizes on agriculture, export, and small businesses. Assisted by the central

bank, RBI caters prompt and sufficient funds at desired cost of which benefit those weaker

sector and low earners.

4.3 EFFECT OF MONETARY POLICY TO REDUCE INFLATION

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When money supply shrinks, interest rates increases, investment declines, consumption and

net exports will decrease.

Such changes will cause a leftward shift of the AD and Q1 will rebound back to Qp but

without an incline in price.

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5.0 CONCLUSION

In conclusion, the economic challenges confronting India are immense, it would require

much precision and tenacity on the policies and economic reforms along with swift decision

making to boost the economy.

Successful fiscal and monetary policies relies on taking well-timed measures and the

government’s effective administration during implementation. Despite gaps in India’s fiscal

policy to achieve economic equilibrium, and the contradictory objectives in monetary

policies, the government has been striving towards achieving their economic objectives and

GDP growth.

REFERENCESIndia Objective in 2014

http://www.dnaindia.com/india/report-budget2014-india-s-economic-policies-will-be-growth-

oriented-arvind-mayaram-1997191

Unemployment

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http://www.azadindia.org/social-issues/Unemployment-in-India.html

http://timesofindia.indiatimes.com/business/india-business/Unemployment-levels-rising-in-

India-experts-say/articleshow/29403619.cms

http://business.mapsofindia.com/bpo-services-india/growth.html

http://www.tradingeconomics.com/india/unemployment-rate

http://data.worldbank.org/indicator/SL.EMP.TOTL.SP.ZS

http://www.tradingeconomics.com/india/labor-participation-rate-total-percent-of-total-

population-ages-15-plus--wb-data.html

Causes of Unemployment

http://satendrasaini.hubpages.com/hub/unemployment-causes

http://www.preservearticles.com/201105096376/what-are-the-causes-of-unemployment-in-

india.html

India Inflation

http://www.bbc.com/news/world-asia-india-24753675

http://www.inflation.eu/inflation-rates/india/historic-inflation/cpi-inflation-india-2013.aspx

http://www.ft.com/cms/s/0/f0256d5c-8506-11e3-a793-00144feab7de.html#axzz35UT5XcOs

India Monetary Policy

http://www.livemint.com/Opinion/rQCCxiHvRCuAupD2w6naGP/5-questions-on-

overhauling-Indias-monetary-policy-framewor.html

http://www.rbi.org.in/home.aspx

http://business.nab.com.au/wp-content/uploads/2013/11/india-monetary-policy-10-2013.pdf

http://articles.economictimes.indiatimes.com/2014-06-17/news/50651109_1_term-repo-

excess-rupee-liquidity-the-reserve-bank

http://in.reuters.com/article/2013/10/29/highlights-rbi-repo-rate-msf-cuts-

idINDEE99S03U20131029

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