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Publisher : Elsevier - Science Direct (الزویر - ساینس دایرکت)
Journal : Journal of International Money and Finance, Volume 33, March 2013, Pages 381–406
This paper examines the dynamic linkages between monetary policy and the stock market during the three distinct monetary regimes of Burns, Volcker and Greenspan since the 1970s. Some major findings are the following. First, in the 1990s it appears that there was a disconnection between Federal Reserve actions (via the federal funds rate) and responses by the stock market. Second, the impact of inflation on the stock market did not surface as significant in the later parts of 1980s and the 1990s. And third, significant asymmetric effects of monetary policy on the stock markets were observed throughout each monetary regime but these were more pronounced during bear markets than bull markets. These results suggest that there was no consistent dynamic relationship between monetary policy and the stock market and that the nature of such dynamics was different in each of the three monetary regimes.
The empirical financial literature on the linkages between monetary policy and the stock market is quite extensive. There are several views that describe how monetary policy affects the stock market. One view asserts that increases in the money supply lead to increases in stock prices which, in turn, stimulate the stock market and the economy at large. Given that stock prices are determined by expected dividends and interest rates, any surprises in monetary policy are likely to influence stock prices directly via the interest-rate channel or, indirectly, through changes in the determinants of dividends (as well as the equity premium). Another view suggests that an expansionary monetary policy, by raising asset prices, lowers their expected returns and thus depresses the stock market. This occurs because rising equity prices are considered a possible harbinger of future inflation, which would trigger subsequent Federal Reserve (Fed) counter action. There is also substantial evidence that stock market behavior influences the monetary policymaker's decisions. First, stock market declines reduce consumption (i.e., the wealth effect) and investment expenditures (the Tobin's (1969)q effect) thereby prompting the Fed to intervene and reverse such trends. Second, in light of the fact that equity markets are forward-looking and reflect private sector expectations about the future state of the economy, the monetary authorities are duly monitoring them closely (i.e., Vickers, 2000). Thus, stock market movements aid the Fed in extracting (hopefully, fundamental) information about possible future policies. Unfortunately, there is no single, consistent and unifying framework that describes the nature of the interaction(s) between monetary policy and the stock market and this is also reflected in the mixed empirical evidence. Specifically, while some authors report a significant linkage between the two magnitudes others either find absence of it or a weak one. Moreover, several authors examined the asymmetric effects of monetary policy on stock prices and its impact on inflation and arrived at different conclusions. Consequently, the purpose of this paper is to cast another look at such dynamics within the context of a macroeconomic framework and across the three monetary regimes since the 1970s. Specifically, the following questions will be addressed. First, has monetary policy responded to movements in the stock market or has it been mostly indifferent to such movements during the last four decades? In other words, how have the differing views on conducting monetary policy by Burns in the 1970s, Volcker in the 1980s and Greenspan in the 1990s and mid 2000s impacted the stock market? It is commonly believed that in several (past and recent) testimonies by the Federal Open Market Committee (FOMC) the Fed's chairmen have mentioned the impact of rising stock prices on private wealth and/or aggregate spending. In fact, we can cite two examples as evidence that the Fed paid attention to the stock market. First, during the market crash of 1987 when the Fed was concerned about financial market stability it cut interest rates and stated that it would stand ready to ensure an uninterrupted supply of liquidity in the market.2 Second, if one looks at the FOMC's meetings transcripts in the 1990s one can conclude that the Fed was mainly worried with the potential consequences of sharp declines in the equity market which could lead to reduced consumption and thus wealth. Furthermore, it is now widely accepted that financial markets paid close attention to the (last) Fed chairman's comments who has repeatedly said that soaring equity prices generate imbalances in economic activity and thus create unstable prices which can endanger the sustainability of long-run economic growth. Finally, Orphanides (2001, 2002), in a series of papers, notes that monetary policy in the 1970s was wrongly aimed at stabilizing an ‘elusive’ full-employment potential instead of concentrating on safeguarding price stability. The monetary policy rules of the 1970s were reversed in the 1980s and 1990s, however. The second question we address in the paper is whether the effects of monetary policy on equity returns have been asymmetric, that is, whether monetary policies impacted bull and bear markets differently. Although there is good empirical evidence on such effects of monetary policy on real magnitudes like output (Ravn and Sola, 2004) and monetary policy announcements and surprises on the stock market (Lobo, 2002), research on the effects of monetary policy on market advances (bull markets) and declines (bear markets) has been rather limited. In general, the financial literature suggests that when there are informational disadvantages among market participants, firms and other investors behave as if they are financially constrained (e.g., Kiyotaki and Moore, 1997). Such behavior may become more pronounced during bear markets, due to deterioration in the firms' balance sheets, implying that monetary policy may have a greater impact during such markets. Moreover, as Bernanke and Kuttner (2005) observe, monetary policymakers may want to respond to stock price instability arising from boom and bust cycles as they cause stock prices to deviate from their fundamental values. A related and new question we examine is whether monetary policies had asymmetric effects on stock prices during different bull markets, that is, between the boom years of the mid 1980s and the long boom of the mid 1990s. The third and final major question we explore in the paper involves the nature of the Fed's stance (response) toward inflation during the three monetary regimes. Could the Fed have targeted inflation as a means of indirectly affecting the stock market, as the Fed contends? Indeed, the Fed's ex-chairman (Greenspan) has repeatedly stated that central banks should be primarily concerned with achieving price stability and sustainable growth, thereby implying that monetary policymakers should respond to stock prices only to the degree that they affect future economic activity. This study is important for three reasons. First, the empirical analysis is done in three distinct subperiods which are representative of the different Fed chairmen views on policy targets starting in the 1970s. The three Fed chairmen (A. Burns, P. Volcker, and A. Greenspan) had different views on how monetary policy should be conducted (for example, the federal funds rate was not the main tool under Burns' tenure). Second, the paper considers the dynamic linkages between monetary policy and the stock market in three different ways. First, by relying on a macroeconomic framework to derive a monetary policy target (and/or shock), second, by taking up monetary neutrality, that is, whether monetary policy affects real stock returns, and third, by examining the asymmetric effects of monetary policy on stock returns. A related issue is whether up and down markets, as well as different up markets, have had any significant short-run impact on stock returns. Finally, we investigate the relationship(s) between the two main magnitudes that may manifest themselves through inflation. In other words, we explore the possibility that the stock market constitutes another monetary policy instrument (conduit), given the recent interest by central bankers, suggesting that monetary policy may affect the real activity and inflation via its effects on the stock market. The rest of the paper is organized as follows. Section 2 deals with the literature review, whereas Section 3 contains some methodological issues, the data collection and construction. Section 4 presents and discusses the main empirical findings, while Section 5 contains asymmetric effects of monetary policy and the impact of inflation for a further understanding of the dynamics between monetary policy and the stock market. Section 6 discusses all above findings in detail and, finally, Section 7 summarizes the results and concludes with some general observations.
نتیجه گیری انگلیسی
This paper empirically examined the dynamic interdependencies between monetary policy, proxied by the Fed's federal funds rate, and stock prices, proxied by the S&P500 index, for the 1970–2005 period. A vector autoregressive (VAR) specification was applied to the three monetary policy regimes of Burns (1970:01–1979:08), Volcker (1979:08–1987:08) and Greenspan (1987:08–2005:12). We employed two strategies for assessing the impact of monetary policy on the stock market. The first strategy modeled monetary policy through federal funds rate innovations emanating from a structural VAR (with several macro variables), which is our benchmark model and, the second one used the endogenously-generated break dates (based on the Bai and Perron, 2003, methodology) for distinguishing the monetary regimes for the entire 1970–2005 period. In general, our results indicated varying degrees of linkages between the two variables during each monetary regime. First, in the 1990s there seemed to have been a detachment between actions taken by the Fed and responses by the stock market and vice versa. Second, we found that monetary policy had a different impact during bull and bear markets (particularly pronounced during bear markets) and among different bull markets (such as the long boom of the mid 1990s). And third, the impact of inflation on the stock market and the funds rate, with their interaction with the federal funds rate, did not seem to be significant in the 1990s. Overall, the results seem to suggest that there was no consistent, dynamic relationship between monetary policy and the stock market and that the nature of such dynamics was different in each of the three different Fed operating regimes. The above evidence, in general, may imply the use of the credit channel of the monetary transmission mechanism, which places emphasis on how monetary policy affects the economy through asset prices (apart from interest rates). Perhaps, in view of the events of the last decade and most recent months (such as financial crises, recessions, and so on) evidence of the actual use of this channel as a monetary policy transmission mechanism may indeed exist. Besides, the Fed may have been obligated to respond to market woes or implicitly obtain market approval before stepping in to bail out the system. In conclusion, this (stock) market-favoring policy shift (originated in the Volcker era with his high-interest rate policy) may have been the central focus of the Greenspan era, and this is clear from Greenspan's differential treatment of the financial markets and his responses to financial crises.