Monetary Transmission Channels, Sectoral Output and Augmented VAR Analysis

This paper analyzes monetary policy effect on aggregate as well as sectoral output of the Indian economy for the period 1996Q1:2013Q2. We apply the standard vector autoregression (VAR) followed by impulse response function to evaluate the response of aggregate as well as sectoral output to monetary policy. We also augment the basic VAR by including various monetary transmission channels, such as, credit channel, exchange rate channel, asset price channel and direct interest rate channel and analyze the sector specific importance of each of these channels. The findings suggest that the impact of a monetary policy changes at the sectoral output level is heterogeneous. Sectors such as mining and quarrying, manufacturing, construction and trade, hotel, transport and communications seem to decline more sharply than aggregate output in response to a monetary tightening. The channels through which monetary policy is transmitted to the real economy are found to be different for every sector. In most of the cases, multiple channels are responsible for the changes in the aggregate and sectoral output to the monetary policy changes.