Fiscal deficit and private investments in India: is it a crowding-out or crowding-in effect?
Student name: Mr Naveen Joseph Thomas
Guide: Dr Arabinda Mishra
Year of completion: 2012
Host Organisation: TERI University
Supervisor (Host Organisation): Dr Shouvik Chakraborty
Abstract: The study analyses the impact of fiscal-deficit financed Central Government expenditure on
the private sector investment in India. Government spending can have a real crowding-out or
financial crowding-out effect on private investment in the economy. Real crowding-out
occurs due to a one to one substitution of private capital formation for public capital
formation. Financial crowding-out is the partial loss in interest rate sensitive private sector
capital formation, due to the rise in interest rate caused by a pre-emption of financial
resources by the Government for financing its fiscal deficit. Besides a real crowding-out
effect, public sector capital formation can also have a crowding-in effect. The crowding-in
effect occurs because public spending on infrastructure and provision of public goods reduces
the private investment required per unit of output and augments the productivity of the
private capital stock. Public spending also raises output expectations in the economy and
hence boosts private capital formation. The study analyses the period from 1970 to 2009 for
the presence of real and financial crowding-out. The empirical results of the time series
analysis over the period indicate the absence of either crowding-out phenomena and, on the
contrary, indicate the presence of a crowding-in phenomenon for the case of India.
