Monetary Business Cycle Accounting Analysis of Indian Economy

In this paper we quantitatively analyze the real and nominal frictions which have shaped up economic fluctuations in the past two decades for the Indian economy. Our results provide guidelines for building future structural models to replicate its business cycle properties, for both real and monetary variables. We use the Monetary Business Cycle Accounting framework (Sustek in Rev Econ Dyn 14(4):592-612, 2011; Chari et al. in Econometrica 75(3):781-836, 2007), and quarterly data from 1999-2017, which is a first for the Indian economy. We find that the distortions in efficiency and investment wedges capture most of the fluctuations in output, investment and hours worked. Up to half of consumption dynamics however are accounted for by the labor wedge. We also find that investment frictions have decreased but labor market frictions have increased over time, indicating reforms in financial sector making an impact and the need for reforms in labor markets. Taylor's Rule wedge matches up to 50% of inflation, and interest rate is well accounted by the asset market wedge.