DECIPHERING CURRENCY DYNAMICS: QUANTITATIVE EVIDENCE ON KEY DRIVERS OF INDIA'S FOREIGN EXCHANGE RATE MOVEMENTS

ABSTRACT This study explores the relationship of key macroeconomic indicators with India's REER from 1991 to 2022, utilizing the ARDL cointegration method. By analyzing the long-run and short-run relationships between REER and variables such as the CPI, call money rate, imports, exports, and money supply, the research uncovers significant dynamics influencing the REER. The study found that higher domestic inflation as indicated by the CPI, leads to currency depreciation fostering competitiveness in Indian exports while elevating import costs. Conversely, elevated interest rates represented by the call money rate, tend to appreciate the rupee by attracting foreign investment. Surprisingly, while exports positively correlate with REER, imports exhibit negligible influence potentially due to India's inflexible import demands. Also, it was seen that the error correction term ensuring long-run stability of the equilibrium. Diagnostic tests confirm the ARDL model's reliability, enhancing confidence in the estimates. These findings contribute insights into the complex relationship between economic factors and exchange rate dynamics in India. Policy implications underscore the importance of inflation management, export promotion, interest rate adjustments, and prudent monetary policy execution in shaping exchange rate movements, offering policymakers a roadmap to achieve desired outcomes while balancing broader economic goals. Keywords: REER, Macroeconomic Variables, Autoregressive Distributed Lag (ARDL), CPI, Money Supply. JEL Classifications: F31, F41, E31, C22, C32