Examining the Role of Digitization in the Transmission of Monetary Policy: An Empirical Analysis of India

The study aims to find the impact of digitalization on the dual objectives of the monetary policy: output growth and stable prices. The study collected data from Reserve Bank of India (RBI), Economic and Political Weekly Research Foundation (EPWRF) and Central Statistics Office (CSO) databases from April 2004 to November 2021. Structural Vector Auto Regressive (SVAR) technique has been employed to explore the transmission mechanism by introducing digitalization as one of the variables. The study results reveal that policy rate (call money rate) and digitalization have a significant contemporaneous relationship. This study also find a positive and significant relationship between digitalization and the index of industrial production both in the short and long run. This implies that as digitalization increases, industrial production also increases; hence the output increases. However, this study finds a negative and insignificant relationship between digitalization and the consumer price index, which becomes positive and significant in the long run. This short-run negative relationship can be attributed to the fact that with digitalization comes better transparency and flow of information, which helps form inflation expectations, thus, lowering its trend. In the long run, the upward pressure is attributed to the fact that economic growth increases the incomes of people, thus increasing their demand and ultimately leading to higher digital transactions. The study suggests that the growth of digital finance should be incorporated into the monetary policy framework in order to increase its effectiveness. In a word, central banks should modify their policy responses to the new realities of the digital world.