Effect Of Exchange Rate, CPI and International Crude Oil Prices on KSE 100-Index: Evidence from Karachi Stock Exchange

Abstract

Interactions are investigated between exchange rates and stock prices in the emerging financial market of Pakistan. The motivation is to establish the causal linkages between leading prices in the foreign exchange market and the stock market; the linkages have implications for the ongoing attempts to develop stock markets in emerging economies simultaneously with a policy shift towards independently floating exchange rates. Some recent econometric techniques are applied to a bivariate vector autoregressive model using annual observations on the stock price index and the real effective exchange rate over 2007-2012. The results show unidirectional causality from exchange rates to stock prices in Pakistan. This finding has policy implications; it suggests that respective governments should be cautious in their implementation of exchange rate policies, given that such policies have ramifications on their stock markets.