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Financial frictions and the reaction of stock prices to monetary policy shocks

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Abstract

This paper reveals and tests a new theoretical implication of the credit channel of monetary policy: as financial frictions (monitoring or auditing costs) increase, the reaction of stock prices to monetary policy shocks decreases. Correspondingly, towards the end of the Enron accounting scandal, the stock prices of firms sharing the same auditor as Enron responded by about 50 to 60 basis points less than other firms to a 10 basis point reduction in the federal funds target rate. This effect is particularly strong among more opaque firms for which financial statements likely provide a more important monitoring tool.

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  • Ali Ozdagli, 2014. "Financial frictions and the reaction of stock prices to monetary policy shocks," Working Papers 14-6, Federal Reserve Bank of Boston.
    • Handle: RePEc:fip:fedbwp:14-6
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    Cited by:

    1. Ozdagli, Ali & Velikov, Mihail, 2020. "Show me the money: The monetary policy risk premium," Journal of Financial Economics, Elsevier, vol. 135(2), pages 320-339.
    2. Ali Ozdagli, 2015. "The final countdown: the effect of monetary policy during \"Wait-for-It\" and reversal periods," Working Papers 15-15, Federal Reserve Bank of Boston.
    3. Michael Weber & Ali Ozdagli, 2016. "Monetary Policy Through Production Networks: Evidence from the Stock Market," 2016 Meeting Papers 148, Society for Economic Dynamics.
    4. Nina Boyarchenko & Valentin Haddad & Matthew Plosser, 2016. "The Federal Reserve and market confidence," Staff Reports 773, Federal Reserve Bank of New York.
    5. Gabriela Castro & José R. Maria & Paulo Júlio, 2015. "Financial Fragmentation Shocks," Working Papers w201508, Banco de Portugal, Economics and Research Department.

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    More about this item

    Keywords

    financial constraints; stock market; credit channel; monetary policy;
    All these keywords.

    JEL classification:

    • E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill

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