Emerging market economy business cycles are typically characterized by high consumption and output volatility, strongly counter-cyclical current accounts, and countercyclical real interest rates. Evidence from the wider EME and less developed economy business cycle experience suggests however that real interest rates can also be procyclical. We reconcile the pro-cyclicality of real interest rates with the above facts by embedding …scal policy into a standard emerging market business cycle model. We show that …scal policy makes real interest rates a-cyclical or pro-cyclical. We use the model to replicate qualitatively some of the key features of the Indian business cycle.

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