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Exchange rate regimes and inflation: Evidence from India

  • Mohanty, Biswajit

    ()

    (Department of Business Economics, Delhi University)

  • Bhanumurthy, N.R.

    ()

    (National Institute of Public Finance and Policy)

Exchange rate stability is crucial for inflation management as a stable rate is expected to reduce domestic inflation pressures through a `policy discipline effect'- restricting money supply growth, and a `credibility effect'- inducing higher money demand and reduced velocity of money. Alternatively, the impossibility trillema predicts that in the presence of an open capital account, a stable exchange rate may lead to lack of control on monetary policy and, hence, higher inflation. Using a monetary model of Inflation, this paper investigates the impact of the de facto stable exchange rate regime on inflation in India during different episodes of exchange rate stability. The results show that the impact of exchange rate regime on inflation is not visible in Indian case, which could be because of the offsetting sterilization policy undertaken by Reserve Bank of India (RBI) during expansionary money supply growth resulting from its large scale intervention to even out exchange rate volatility.

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File URL: http://www.nipfp.org.in/media/medialibrary/2014/02/WP_2014_130.pdf
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Paper provided by National Institute of Public Finance and Policy in its series Working Papers with number 14/130.

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Length: 24
Date of creation: Jan 2014
Date of revision:
Handle: RePEc:npf:wpaper:14/130
Note: Working Paper 130, 2014
Contact details of provider: Web page: http://www.nipfp.org.in

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