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Does Financial Frictions Matter for Monetary Policy Transmission in India?

In: India’s Contemporary Macroeconomic Themes

Author

Listed:
  • Ranjan Kumar Mohanty

    (Xavier Institute of Management, XIM University)

  • N. R. Bhanumurthy

    (Dr. B.R. Ambedkar School of Economics (BASE) University)

Abstract

In the context of the adoption of flexible inflation targeting regime in India since 2016, it is necessary to understand the effectiveness of monetary transmission mechanism. The paper investigates if there are any asymmetries in the monetary transmission during different regimes and verifies the role of financial frictions in such asymmetries, if it exists. Using Markov-Switching Vector Autoregression (MS-VAR) models, our results suggest that there are asymmetries in the monetary transmission mechanism during highly volatile and low-volatile regimes with respect to its effects on both output and inflation. It also finds that financial frictions do influence the extent and effectiveness of the policy transmission process in India. From a policy perspective, while the Reserve Bank of India (RBI) may continue to target inflation during high-volatile regimes, it could have output growth as an additional target during the low-volatile regimes.

Suggested Citation

  • Ranjan Kumar Mohanty & N. R. Bhanumurthy, 2023. "Does Financial Frictions Matter for Monetary Policy Transmission in India?," India Studies in Business and Economics, in: D. K. Srivastava & K. R. Shanmugam (ed.), India’s Contemporary Macroeconomic Themes, chapter 0, pages 357-384, Springer.
    • Handle: RePEc:spr:isbchp:978-981-99-5728-6_15
    DOI: 10.1007/978-981-99-5728-6_15
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    More about this item

    Keywords

    Monetary transmission mechanism; Financial frictions; Bank credit channel; Interest rate channel; Markov-switching vector autoregression (MS-VAR); India;
    All these keywords.

    JEL classification:

    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
    • E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy
    • E58 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Central Banks and Their Policies
    • C32 - Mathematical and Quantitative Methods - - Multiple or Simultaneous Equation Models; Multiple Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models; Diffusion Processes; State Space Models

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