Identifying the Interdependence between US Monetary Policy and the Stock Market

Hilde Bjørnland () and Kai Leitemo

No 12/2005, Memorandum from Oslo University, Department of Economics

Abstract: We estimate the interdependence between US monetary policy and the S&P 500 using structural VAR methodology. A solution is proposed to the simultaneity problem of identifying monetary and stock price shocks by using a combination of short-run and long-run restrictions that maintains the qualitative properties of a monetary policy shock found in the established literature (CEE 1999). We find great interdependence between interest rate setting and stock prices. Stock prices immediately fall by 1.5 percent due to a monetary policy shock that raises the federal funds rate by ten basis points. A stock price shock increasing stock prices by one percent leads to an increase in the interest rate of five basis points. Stock price shocks are orthogonal to the information set in the VAR model and can be interpreted as non-fundamental shocks. We attribute a major part of the surge in stock prices at the end of the 1990s to these non-fundamental shocks.

Keywords: VAR; monetary policy; asset prices; identification (search for similar items in EconPapers)
JEL-codes: E43 E52 E61 (search for similar items in EconPapers)
Pages: 34 pages
Date: 2005-05-15
New Economics Papers: this item is included in nep-cba, nep-fin, nep-mac and nep-mon
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (15)

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Related works:
Journal Article: Identifying the interdependence between US monetary policy and the stock market (2009)
Working Paper: Identifying the interdependence between US monetary policy and the stock market (2008)
Working Paper: Identifying the interdependence between US monetary policy and the stock market (2005)
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