The Impact of Fiscal Deficit on Inflation and Economic Growth: Evidence and Policy Implications

Abstract

This study examines the relationship between fiscal deficit, inflation, and economic growth, with a focus on how sustained government borrowing shapes short- and medium-run macroeconomic outcomes. Fiscal deficit, the gap between government expenditure and revenue, is a central instrument of countercyclical policy, yet its financing carries consequences for price stability and the trajectory of output. Using a combination of theoretical review and time-series macroeconomic data (fiscal deficit, consumer price inflation, and real GDP growth) spanning twelve fiscal years, this paper investigates whether higher fiscal deficits are systematically associated with higher inflation and altered growth performance. Correlation analysis indicates a moderate positive association between fiscal deficit and inflation and a stronger negative association between fiscal deficit and contemporaneous GDP growth, although the latter is substantially influenced by the countercyclical deficit spending observed during the COVID-19 pandemic. The findings suggest that the effect of fiscal deficit on macroeconomic stability is non-linear and contingent on the composition of expenditure, the stage of the business cycle, and the credibility of monetary policy. The paper concludes with policy recommendations emphasising fiscal consolidation anchored in capital expenditure, rule-based fiscal frameworks, and coordinated monetary-fiscal policy to balance growth and price stability objectives.