ABSTRACT
In this chapter, a complete flow of funds is modelled by consolidating the four long-run models derived in Chapters 5 to 8: the whole financial sector is endogenised by means of demand (and supply) functions for asset choice in the disaggregated sectors, and each financial market is solved by equating the demand and supply functions (Brainard and Tobin 1968). The estimated models are then used to conduct policy simulation experiments in order to quantify the potency of various financial reform programmes in the financial sector in India. One of the principal concerns in policy analysis for economic development was whether adequate funds were directed to sectors – corporate and household – which indulge in economic activities, rather than remaining locked inside banking or government sectors by a captive market for credit allocation. The empirical focus is therefore on the impact of the currently ongoing financial liberalisation on a flow of loanable funds. We specifically investigate how each economic sector responds to changes in policy instruments and how funds are re-allocated within the financial sector. The chapter is organised as follows. In Section 9.2, we present a theoretical flow
of funds model for India. (Note that the contents are extracted from Section 3.1 in Chapter 3 and Section 4.2 in Chapter 4.) Estimation method and historical simulation for demand functions are spelled out in Section 9.3. In Section 9.4, policy simulation experiments are implemented to see the impact of changes in monetary policy and interest rates on the inter-sectoral financial flows. Concluding remarks are found in Section 9.5.
