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Does Perception Matter? The Role of Monetary Policy Uncertainty in Policy Transmission

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  • Aariya Sen

    (Assistant Professor (Economics), Faculty-in- Charge, Placement and Internship Cell, School of Business, Indian Institute of Technology Guwahati, Guwahati, Assam, India- 781039)

Abstract

The effectiveness of monetary policy transmission to the macroeconomy is contingent on numerous factors. Policy uncertainty is often considered a major deterrent to smooth monetary policy transmission, which inflicts the pain of frequent changes in expectations by the market players. In this study, I analyze the impact of a perceived monetary policy uncertainty (MPU) index for India, constructed based on news-paper data, on financial markets as well as on monetary policy transmission. The computed MPU index exhibits a negative correlation with the sentiment in Monetary Policy Committee minutes, where higher positive sentiment on the minutes moves along with a lower MPU. The empirical examination using wavelet transformation and spillovers showed that MPU has had significant spillovers in Indian financial markets and is widely correlated to business cycle movements. Finally, the analysis documenting the transmission to the real economy shows that a state of high uncertainty dampens monetary policy transmission and adversely affects consumer confidence, sovereign risk, investment inflows and balance of trade. The results underscore the need for effective communication from the Central Bank and the need to manage expectations in the financial markets through forward guidance, transparency, and accountability.

Suggested Citation

  • Aariya Sen, 2026. "Does Perception Matter? The Role of Monetary Policy Uncertainty in Policy Transmission," Working Papers 2026-297, Madras School of Economics,Chennai,India.
    • Handle: RePEc:mad:wpaper:2026-297
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    References listed on IDEAS

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    Keywords

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    JEL classification:

    • E43 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Interest Rates: Determination, Term Structure, and Effects
    • E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
    • E58 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Central Banks and Their Policies
    • G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading

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