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Inflation, output and stock prices: evidence from Latin America

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Author Info
Bahram Adrangi (School of Business Administration, The University of Portland, Portland, OR 97203, USA)
Arjun Chatrath (School of Business Administration, The University of Portland, Portland, OR 97203, USA)
Todd M. Shank (School of Business Administration, The University of Portland, Portland, OR 97203, USA)
Abstract

Research in economics and finance documents a puzzling negative relationship between stock returns and inflation rate in markets of industrialized economies. The present study investigates this relationship for the developing markets of Peru and Chile. Fama's model of linkages between inflation and real economic activity constitutes the theoretical framework of this paper. The study tests whether the negative relationship between equity returns and inflation is a result of a 'proxy effect', namely, a negative relationship between inflation and real economic activity. The evidence for Peru and Chile does not provide strong support for Fama's hypothesis. It is shown that the negative relationship between the real stock returns and unexpected inflation persists after purging inflation of the effects of the real economic activity. The long-run equilibrium between stock prices and general price levels is weak, as indicated by the findings of the Johansen and Juselius co-integration tests. However, in both economies, stock prices and general price levels seem to show a strong long-run equilibrium with the real economic activity. These findings suggest that in the long-run, Fama's propositions A and B are supported for Peru and Chile. The disparity between traditional regression and co-integration test results suggest that it may be prudent to re-examine the proxy effect in the framework of a long-run relationship before denying its validity. Copyright © 1999 John Wiley & Sons, Ltd.

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Publisher Info
Article provided by John Wiley & Sons, Ltd. in its journal Managerial and Decision Economics.

Volume (Year): 20 (1999)
Issue (Month): 2 ()
Pages: 63-74
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Handle: RePEc:wly:mgtdec:v:20:y:1999:i:2:p:63-74

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Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
  1. Gultekin, N Bulent, 1983. " Stock Market Returns and Inflation: Evidence from Other Countries," Journal of Finance, American Finance Association, vol. 38(1), pages 49-65, March. [Downloadable!] (restricted)
  2. Geske, Robert & Roll, Richard, 1983. " The Fiscal and Monetary Linkage between Stock Returns and Inflation," Journal of Finance, American Finance Association, vol. 38(1), pages 1-33, March. [Downloadable!] (restricted)
  3. Feldstein, Martin, 1980. "Inflation and the Stock Market," American Economic Review, American Economic Association, vol. 70(5), pages 839-47, December. [Downloadable!] (restricted)
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  4. Perron, Pierre, 1988. "Trends and random walks in macroeconomic time series : Further evidence from a new approach," Journal of Economic Dynamics and Control, Elsevier, vol. 12(2-3), pages 297-332. [Downloadable!] (restricted)
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