The study is aimed at finding relationship between crude oil price in international market and exchange rate of Indian currency. As Indian economy is import dependent with high degree of inclination to crude oil import, the forex outgo due to this impacts Indian economy. The depreciation of Indian currency due to higher demand of USD and increasing trend of import dependency on crude oil aggravates the fiscal framework. The analysis is desired to find causality and auto regressive relationship between these two variables. The real exchange rate return has been compared in the process with real crude oil price which is found after adjusting it with CPI inflation of US. The Vector Auto Regressive (VAR) model was used to identify lag relationship and subsequently lag length criteria was performed. The lag exclusion test specified the significant lag order. The granger causality and block erogeneity test was subsequently performed and the parameters were found to be block exogenous and not granger causal. This outcome was re-established with the help of variance decomposition test. However, the impulse test signifies impact of crude oil price shock on exchange rate of Indian currency and vice versa. The shock analysis also emphasizes the volatility of the parameters on its own shocks. The outcome concludes neither unidirectional nor bidirectional granger causality of the variables with no significant auto regression of the variances of the parameters. The analysis of impulse test confirms the short run impacts on exchange rate due to shock in the oil prices, henceforth which proves the fact about that demand of oil is elastic in short run, which is observed in most of the oil importing and emerging countries.
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