Inflation, Exchange Rates and Stock Market Returns in India: New Evidence on Short- and Long-Run Dynamics amid COVID-19

Abstract

Inflation, exchange rate movements and COVID-19 pandemic have substantially influenced stock market performance in emerging economies. This study investigates their short- and long-run effects on Indian stock market returns using monthly data from 2012M04 to 2023M07. The Autoregressive Distributed Lag (ARDL) model is employed with FMOLS and CCR estimators used to assess the robustness of the long-run estimates. According to ARDL estimates, inflation has a negative but statistically insignificant long-run effect on stock market returns, whereas exchange-rate depreciation exerts a negative and highly significant short-run effect and a marginally significant negative long-run effect. The COVID-19 period is associated with a significant negative short-run response but a positive long-run shift in stock-market returns, consistent with an initial pandemic-induced disruption followed by market adjustment and recovery. The positive long-run COVID-19 coefficient remains significant across the FMOLS and CCR estimators, while the negative exchange-rate coefficient remains consistent in sign but is statistically insignificant under these alternative estimators. The study provides relevant insights for policymakers, investors and financial regulators in managing macroeconomic risks and promoting financial market stability.