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The Relation between Monetary Policy and the Stock Market in Europe

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  • Helmut Lütkepohl
  • Aleksei Netsunajev

Abstract

We use a cointegrated structural vector autoregressive model to investigate the relation between euro area monetary policy and the stock market. Since there may be an instantaneous causal relation we consider long-run identifying restrictions for the structural shocks and also use (conditional) heteroskedasticity in the residuals for identification purposes. Heteroskedasticity is modelled by a Markov-switching mechanism. We find a plausible identification scheme for stock market and monetary policy shocks which is consistent with the second order moment structure of the variables. The model indicates that contractionary monetary policy shocks lead to a long-lasting down-turn of real stock prices.

Suggested Citation

  • Helmut Lütkepohl & Aleksei Netsunajev, 2018. "The Relation between Monetary Policy and the Stock Market in Europe," Discussion Papers of DIW Berlin 1729, DIW Berlin, German Institute for Economic Research.
    • Handle: RePEc:diw:diwwpp:dp1729
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    More about this item

    Keywords

    Cointegrated vector autoregression; heteroskedasticity; Markov-switching model; monetary policy analysis;
    All these keywords.

    JEL classification:

    • C32 - Mathematical and Quantitative Methods - - Multiple or Simultaneous Equation Models; Multiple Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models; Diffusion Processes; State Space Models

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