Inflation targeting and stock market liquidity: a difference-in-difference and doubly robust analysis of emerging markets

This study examines the impact of full-fledged inflation targeting (IT) regime adoption on stock market liquidity in emerging markets, addressing a critical yet underexplored dimension of monetary policy’s financial market effects. Understanding how IT influences financial market stability is crucial, particularly for emerging economies where liquidity constraints exacerbate financial fragility. Analyzing 35 emerging countries, of which 15 are inflation targeters, over the period 1990–2023, we employ Difference-in-Differences and Doubly Robust methods to assess the influence of IT on stock market liquidity, utilizing several proxies for liquidity. Our findings indicate that IT has a significant impact on liquidity, particularly during crises such as the Global Financial Crisis (GFC) and the COVID-19 pandemic. The positive impact of IT adoption on stock market liquidity emerges after a three-year delay and becomes statistically significant once key economic and financial variables are controlled for. Robust across multiple checks, our study extends prior literature by offering a broad multi-country perspective, isolating IT’s unique role, and using advanced methods to address selection bias. It highlights IT as a key policy tool for financial stability, equipping central bankers with strategies to prevent liquidity dry-ups and strengthen economic resilience in turbulent times.