Monetary Policy and Financial Stability in India

With rising geoeconomic tensions and financial fragmentation, financial instability concerns are becoming deeper and more persistent for emerging economies like India. Post the Global Financial Crisis (GFC) of 2008, the spotlight turned to the possible role of monetary policy in ensuring financial stability in addition to the mandated goals of price and output stability. This paper aims to estimate the dynamics between monetary policy and financial stability in India using a Structural Vector Auto Regressive (SVAR) model based on monthly data from January 2011 to April 2024. Financial stability is measured along three dimensions: banking, stock market, and external stability. We find significant evidence of bank credit and exchange rate channels, while the asset price channel has weaker evidence. There is evidence of high risktaking behaviour of banks in the case of expansionary monetary policy, pressing for the role of regulatory and prudential policies.