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Stock Market Liquidity, Monetary Policy and the Business Cycle

Markus Leippold and Vincent Wolff
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Markus Leippold: University of Zurich; Swiss Finance Institute

No 22-93, Swiss Finance Institute Research Paper Series from Swiss Finance Institute

Abstract: Næs, Skjeltorp, and Ødegaard (2011) provide empirical evidence that stock market liquidity contains leading information about future economic activity. Their result suggests a rebalancing of small, increasingly illiquid to large stocks in recession times, an expression of “flight-to-quality”. We show that the relationship no longer holds due to the Fed’s accommodative monetary policy to buoy stock markets in crisis starting in the 1990s. Moreover, we document that liquidity dry-ups in small stocks no longer coincide with recessions. The Fed’s interventions mute the systematic link between monetary conditions and aggregate stock market liquidity’s well-established business cycle component.

Keywords: Financial Markets and the Macroeconomy; Liquidity; Monetary Policy (search for similar items in EconPapers)
JEL-codes: E52 G10 (search for similar items in EconPapers)
Pages: 22 pages
Date: 2022-12
New Economics Papers: this item is included in nep-ban, nep-cba, nep-fdg and nep-mon
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