Pakistan Journal of Social Sciences (PJSS) Vol. 30, No. 2 (December 2010), pp. 263-274 Causal Relationship Between Macro-Economic Variables and Stock Market: A Case Study for India Dharmendra Singh 1 Associate Professor, School of Management Sciences, Lucknow(UP)-India Email:singhdharmendra@rediffmail.com Abstract In this research paper, attempt has been made to explore the relation especially the causal relation between stock market index i.e. BSE Sensex and three key macro economic variables of Indian economy by using correlation, unit root stationarity tests and Granger causality test. Monthly data has been used from April,1995 to March, 2009 for all the variables, like, BSE Sensex, wholesale price index (WPI), index of industrial production(IIP) and exchange rate(Rs/$). Results showed that the stock market index, the industrial production index, exchange rate, and wholesale price index contained a unit root and were integrated of order one. Granger causality test was then employed. The Granger causality test indicated that IIP is the only variable having bilateral causal relationship with BSE Sensex. WPI is having strong correlation with Sensex but it is having unilateral causality with BSE Sensex. Therefore, it is concluded that, Indian stock market is approaching towards informational efficiency at least with respect to two macroeconomic variables, viz. exchange rate and inflation (WPI). Keywords: Granger Causality; Staionarity Test; Macroeconomic variables; Stock Market Index; Efficient Market Hypothesis; Indian Economy I. Introduction: Security prices are influenced by number of factors some are company specific, sector specific while some belong to the environment in which the company is operating. Movements of stock prices are seen to depend on macroeconomic factors; domestic and international economic, social or political events; market sentiments / expectations about future economic growth trajectory, monetary and fiscal policy announcements etc. The stock market capitalizes the present and future values of growth opportunities while evaluating the growth of all sectors in the economy. In a sense stock markets can really be regarded as the pulse of the economy as they reflect every action taken by the economic and political agents almost instantly. 1 Dr. Dharmendra Singh is currently Associate Professor (Finance) at School of Management Sciences, Lucknow. His area of interest is Banking and International Finance. He is an active researcher having 10 years of teaching experience. He has presented papers at various national and international conferences and attended training programmes at apex institutions like IIT’s and IIM’s. He has publications in leading referred journals like Academy of Taiwan Business Management Review, NMIMS Review, Journal of Management Research Delhi University, FORE School of Management etc. He has authored one book on Financial Management. He has been Head Examiner for several times in the UP Technical University evaluations. He has also been associated with various other organizations as a visiting faculty and has given training for the examinations of AMFI and NSE.