Starting with a very simple question—Is there any relationship between trade deficit and fiscal deficit in India?—the present study attempts to evaluate the long-run relationship and causality between trade deficit and fiscal deficit with econometric models such as unit root, cointegration, error correction model and Granger causality test over the period 1980-2014. Individual modeling suggests that there exists a longrun relationship and causality between trade deficit and fiscal deficit and other macroeconomic variables during the study period. Overall results imply that fiscal deficit and macroeconomic factors have cointegrating relationship with trade deficit and should be given serious attention in the attempt to decrease trade deficit and fiscal deficit in India in future.

Twin deficits, i.e., fiscal deficit and trade deficit, play an important role in the country’s economic development. Of late, identifying the relationship between the twin deficits has attracted the attention of many researchers. Some of the earlier studies that attempted to measure the relationship of twin deficits around global level could find that both deficits have close a relationship, and proved the relationship as postulated under Keynesian proposition, i.e., budget deficit causes trade deficit (Darrat, 1988; Abell, 1990; Zietz and Pemberton, 1990; and Vamvoukas, 1999), and some studies found that there exists no relationship between these deficits in line with the Ricardian concept (Evans, 1988; Dewold and Ulan, 1990; Enders and Lee, 1990; and Kim, 1995).

Identifying the relationship between both deficits is the most controversial issue in economics. Different schools of thoughts put forth different viewpoints about the relationship, i.e., relationship of fiscal deficits and trade deficits in both developed and developing economies. These twin deficits have got serious attention from the researchers as well as academicians as in many cases these deficits are feared to lead to economic impairment and indignant economic growth. Over a decade, this linkage between fiscal deficits and trade deficits of economies have spurred wide academic debate and empirical testing.

Applied Economics Journal, Augmented Dickey-Fuller (ADF), Phillips-Perron (PP), Augmented Dickey-Fuller (ADF), TD, FD, GDP, Relationship, Fiscal Deficit, Trade Deficit, India, Empirical Enquiry, Time Series Data.