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Role of Monetary and Fiscal Policy Interaction in achieving Macroeconomic Targets


There has been a major shift within macroeconomic policy over the past two decades or so in terms of the relative importance given to monetary policy and to fiscal policy in both policy and theoretical terms. The former has gained considerably in importance, with the latter being rarely mentioned. Furthermore, the nature of monetary policy has shifted away from any attempt to control some monetary aggregate (prevalent in the first half of the 1980s), and instead monetary policy has focused on the setting of interest rates as the key policy instrument. There has also been a general shift towards the adoption of inflation targets and the use of monetary policy to target inflation. This paper considers the significance of this shift in the nature of monetary policy. This enables us to question the effectiveness of monetary policy, and to explore the role of fiscal policy. We examine these questions from the point of view of the monetary economics and suggest that it is rather limited in its analysis. When the analysis is broadened out to embrace empirical issues and evidence the clear conclusion emerges that monetary policy is relatively impotent. The role of fiscal policy is also considered, and we argue that fiscal policy (under specified conditions) remains a powerful tool for macroeconomic policy. This is particularly an apt conclusion under current economic conditions.

Prof. Jharna Lulla

Prof. Jharna Lulla (Masters in Economics, PGDM) is a faculty of Economics at International School of Management Excellence, Navi Mumbai. She has extensive experience in various corporates before moving into academics. Prof. Jharna is currently writing a book on Macro Economics and is a prolific writer in journals and magazines. For the complete article, write to us at