Interactions between business cycles, stock market cycles and interest rates: the stylised facts

Sanvi Avouyi-Dovi and Julien Matheron

Financial Stability Review, 2003, issue 3, 80-99

Abstract: In this paper, we study the co-movements between stock market indices and real economic activity over the business cycle in France, Germany, Italy, the United Kingdom and the United States. Working on the premise that there is neither a single definition of the business cycle, nor a single method for studying it, we use two complementary approaches in our analysis. First, we identify the turning points in real economic indicators and stock market indices and determine the extent to which these series co-move, i.e. are regularly and significantly in the same phase of the cycle. Second, we decompose the series studied into a cyclical part and a structural part in order to calculate the correlations between the cyclical components of real economic indicators and excess returns, on the one hand, and the correlations between the structural components of these indicators, on the other. We then analyse the co-movements between three-month interest rates and the cyclical and structural components of real economic and stock market indices. Two main conclusions can be drawn from these different analyses: (i) there does not appear to be a strong dependence between stock prices and the level of real activity in the short term, except in the United States; (ii) in the longer term, real activity and stock prices seem to share the same determinants. However, it seems difficult to clearly identify an impact of asset price movements on the conduct of monetary policy, represented here by three-month money market interest rates. In general, we do not detect a significant relationship between the cyclical components of excess returns and those of money market rates; nor do we find a significant link between the structural components of these variables.

Date: 2003
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Working Paper: Interactions between Business Cycles, stock Market Cycles and Interest Rates: the Stylised Facts (2005)
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