Options and Strategies for Fiscal Consolidation in India

The paper uses a multi-region DSGE model to quantify the macroeconomic implications ofthree adjustment scenarios for India: growth-friendly, social-friendly, and a benchmark casecentered on bringing down unproductive spending and strengthening the consumption tax.Simulations indicate that fiscal consolidation yields considerable long-term benefits but alsoentails output costs in the near term. The scenarios in which deficit reduction is accompaniedby greater investment and social spending lead to better results than the benchmark case. Theconsolidation package alone is not enough to maximize net gains. Other factors, such as thepace and the credibility of consolidation, the concomitant implementation of structuralreforms, and global economic conditions, play a critical role in the success of fiscalconsolidation.