International Journal of Social Science & Economic Research
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Title:
THE TRINITY OF INTEREST RATE, EXCHANGE RATE, AND INFLATION: THE CASE FOR INFLATION TARGETING IN INDIA

Authors:
Swapnil Bhardwaj and Prof. Alpana Kateja

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Swapnil Bhardwaj1 and Prof. Alpana Kateja2
1Senior Research Fellow, Department of Economics, University of Rajasthan, Jawahar Lal Nehru Marg, Jaipur, Rajasthan 302004
2Professor, department of Economics, University of Rajasthan, Jawahar Lal Nehru Marg, Jaipur, Rajasthan 302004

MLA 8
Bhardwaj, Swapnil, and Alpana Kateja. "THE TRINITY OF INTEREST RATE, EXCHANGE RATE, AND INFLATION: THE CASE FOR INFLATION TARGETING IN INDIA." Int. j. of Social Science and Economic Research, vol. 3, no. 1, Jan. 2018, pp. 181-189, ijsser.org/more2018.php?id=13. Accessed 2018.
APA
Bhardwaj, S., & Kateja, A. (2018, January). THE TRINITY OF INTEREST RATE, EXCHANGE RATE, AND INFLATION: THE CASE FOR INFLATION TARGETING IN INDIA. Int. j. of Social Science and Economic Research, 3(1), 181-189. Retrieved from ijsser.org/more2018.php?id=13
Chicago
Bhardwaj, Swapnil, and Alpana Kateja. "THE TRINITY OF INTEREST RATE, EXCHANGE RATE, AND INFLATION: THE CASE FOR INFLATION TARGETING IN INDIA." Int. j. of Social Science and Economic Research 3, no. 1 (January 2018), 181-189. Accessed , 2018. ijsser.org/more2018.php?id=13.

References
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Abstract:
The paper attempts to estimate the interest rate, exchange rate and inflation nexus in the wake of Inflation Targeting (IT) in India. IT is a flexible monetary framework used to tame inflation and maintain price stability. Initially adopted by industrial countries, IT delivered robust results not only it helped in maintaining price stability but also anchored people's future inflation expectations and hence reduced inflation persistence. Motivated by the performance of IT regime in developed countries, developing nations became enthusiastic about it and followed suit. The economists all around share the common view that developing nations before implementing IT as a monetary arrangement should initiate economic and financial reforms to meet certain fundamental conditions imperative for IT's success. The existing empirical literature provides adequate evidence on the fulfillment of pre-condition of fiscal discipline in economies implementing IT, high external debt leads to currency depreciation when interest rates are increased to curtail rising inflation, this further leads to increase in inflation, contradicting the purpose of IT. The data of Three month Treasury bill rate as the rate of interest, real exchange rate and Consumer Price Index (CPI) inflation for twenty years (1995-2015) is considered. The study employs Autoregressive Distributed Lag (ARDL) model to evaluate the short run and long run relationship between the variables. The results show the existence of significant and positive short run relationship between real interest rate (RIR) and real exchange rate (RER). The short run relationship between real interest rate, real exchange rate, and CPI inflation is inverse and significant; the most interesting revelation is that when exchange rate depreciates inflation reduces. In both the cases, the long run relationship between the variables is inconclusive and ambiguous.