Investigating the Long-Run and Short-Run Dynamics Between Exchange Rate, Interest Rate, and Stock Market Index in India

Abstract

This study aims to examine the dynamic relationship between exchange rate (INR/USD), interest rate (repo rate), and the Indian stock market index (Nifty 50) using the Autoregressive Distributed Lag (ARDL) bounds testing approach. The primary objective is to determine whether a long-run equilibrium relationship exists among these variables and to assess short-run adjustments using monthly data from January 2010 to December 2024. The ARDL model confirms a significant long-run negative relationship, indicating that depreciation in the exchange rate and rising interest rates lead to declines in stock market performance. The Error Correction Model reveals rapid adjustment to equilibrium, with nearly 70% of short-term deviations corrected within a month. The study concludes that macroeconomic fundamentals significantly influence stock prices in India, both in the short and long run. These findings have practical implications: investors must closely monitor interest and exchange rate trends for strategic portfolio decisions, while policymakers should focus on maintaining macroeconomic stability to support sustained stock market growth.