Monetary policymakers regard exchange rate volatility as a benchmark for confronting monetary and currency crises and controlling their effects. The informal economy, in turn, is one of the challenges that can influence foreign currency supply and demand and the effectiveness of exchange rate policies. This study examines the effect of the informal economy on exchange rate volatility in Iran, considering other influential variables, including the inflation rate, GDP growth, the central bank's net foreign exchange reserves, and oil prices. Using annual data over the period 1991–2022, the model was estimated based on the Nonlinear Autoregressive Distributed Lag (NARDL) approach. The results show that the informal economy has significant asymmetric effects on exchange rate volatility: positive shocks, namely the expansion of the informal economy, intensify exchange rate volatility, while negative shocks reduce it, though with a smaller effect on reducing instability. Rising inflation and falling oil prices also intensify exchange rate volatility, whereas higher oil prices and net foreign exchange reserves reduce it by a smaller coefficient. The findings indicate that the informal economy plays a determining role in exchange rate dynamics, and that reducing the scope of informal activities could help improve exchange rate stability.