Twin deficit hypothesis: some recent evidence from India

Abstract

The purpose of this study is to examine the relationship between budget deficit and trade deficit commonly known as 'twin deficits hypotheses' in Indian economy. We used time series data for the period of 1970 to 2013. The empirical results of this study follow the autoregressive distributed lag (ARDL) cointegration technique for long run and short run estimates and error correction mechanism (ECM). In this study, we check the hypotheses that trade deficit is the determinant of budget deficit with its current values or the lag values. The results of the ARDL model confirm that there is the positive and significant relationship between trade deficit and budget deficit. So twin deficits hypothesis is valid for India. The ARDL results of the short run confirm the hypothesis that trade deficit can determine the budget deficit in the case of India. The results of the long run estimates are also significant. The error correction specification is used to find evidence of long-run causality running from budget deficit to trade deficit and vice versa. The empirical results suggest that trade deficit can determine the budget deficit in case of India.