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The Stabilization of the U.S. Economy Evidence From the Stock Market

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  • Matthew D. Shapiro

Abstract

Until recently, economists widely believed that economic activity had become less variable in the United States following the end of World War II. Challenging this belief, new research suggests that key historical time series are spuriously volatile, a finding that is highly controversial. Data from the stock market may provide a vehicle for resolving the controversy. Economic theory relates stock prices to real activity; empirical tests also show a strong link between stock prices and activity. Financial data are accurately measured over long spans of time and hence are free of most of the measurement problems in other time series. Measures of stock prices show no stabilization in the post-World War II period relative to the pre-World War I or pre-Depression periods. These stock market data thus support the hypothesis that real activity has not been stabilized.

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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 2645.

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Date of creation: Jul 1988
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Publication status: published as Shapiro, Matthew D. "The Stabilization of the U.S. Economy Evidence From the Stock Market," from American Economic Review, Vol. 78, No. 5, December 1988.
Handle: RePEc:nbr:nberwo:2645

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  1. Robert B. Barsky, 1986. "The Fisher Hypothesis and the Forecastability and Persistence of Inflation," NBER Working Papers 1927, National Bureau of Economic Research, Inc.
  2. Mankiw, N Gregory & Romer, David & Shapiro, Matthew D, 1985. " An Unbiased Reexamination of Stock Market Volatility," Journal of Finance, American Finance Association, American Finance Association, vol. 40(3), pages 677-87, July.
  3. Sanford J. Grossman & Robert J. Shiller, 1980. "The Determinants of the Variability of Stock Market Prices," NBER Working Papers 0564, National Bureau of Economic Research, Inc.
  4. Romer, Christina, 1986. "Spurious Volatility in Historical Unemployment Data," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 94(1), pages 1-37, February.
  5. Shiller, Robert J, 1981. "Do Stock Prices Move Too Much to be Justified by Subsequent Changes in Dividends?," American Economic Review, American Economic Association, American Economic Association, vol. 71(3), pages 421-36, June.
  6. Campbell, John Y & Mankiw, N Gregory, 1987. "Are Output Fluctuations Transitory?," The Quarterly Journal of Economics, MIT Press, MIT Press, vol. 102(4), pages 857-80, November.
  7. James M. Poterba & Lawrence H. Summers, 1984. "The Persistence of Volatility and Stock Market Fluctuations," NBER Working Papers 1462, National Bureau of Economic Research, Inc.
  8. Stanley Fischer & Robert C. Merton, 1985. "Macroeconomics and Finance: The Role of the Stock Market," NBER Working Papers 1291, National Bureau of Economic Research, Inc.
  9. Nelson, Charles R. & Plosser, Charles I., 1982. "Trends and random walks in macroeconmic time series : Some evidence and implications," Journal of Monetary Economics, Elsevier, Elsevier, vol. 10(2), pages 139-162.
  10. Marsh, Terry A & Merton, Robert C, 1986. "Dividend Variability and Variance Bounds Tests for the Rationality ofStock Market Prices," American Economic Review, American Economic Association, American Economic Association, vol. 76(3), pages 483-98, June.
  11. Lucas, Robert E, Jr, 1978. "Asset Prices in an Exchange Economy," Econometrica, Econometric Society, Econometric Society, vol. 46(6), pages 1429-45, November.
  12. Officer, R R, 1973. "The Variability of the Market Factor of the New York Stock Exchange," The Journal of Business, University of Chicago Press, University of Chicago Press, vol. 46(3), pages 434-53, July.
  13. Andrews, Donald W K & Fair, Ray C, 1988. "Inference in Nonlinear Econometric Models with Structural Change," Review of Economic Studies, Wiley Blackwell, Wiley Blackwell, vol. 55(4), pages 615-39, October.
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Cited by:
  1. Lizardo, Radhamés A. & Mollick, André V., 2009. "Do foreign purchases of U.S. stocks help the U.S. stock market?," Journal of International Financial Markets, Institutions and Money, Elsevier, Elsevier, vol. 19(5), pages 969-986, December.
  2. Christina D. Romer, 1999. "Changes in Business Cycles: Evidence and Explanations," Journal of Economic Perspectives, American Economic Association, American Economic Association, vol. 13(2), pages 23-44, Spring.
  3. Margaret M. McConnell & Gabriel Perez Quiros, 1998. "Output fluctuations in the United States: what has changed since the early 1980s?," Staff Reports, Federal Reserve Bank of New York 41, Federal Reserve Bank of New York.
  4. Binswanger, Mathias, 2004. "Stock returns and real activity in the G-7 countries: did the relationship change during the 1980s?," The Quarterly Review of Economics and Finance, Elsevier, Elsevier, vol. 44(2), pages 237-252, May.
  5. Cochran, Steven J. & DeFina, Robert H., 1996. "Predictability in real exchange rates: Evidence from parametric hazard models," International Review of Economics & Finance, Elsevier, Elsevier, vol. 5(2), pages 125-147.
  6. Peter Blair Henry, 2001. "Is Disinflation Good for the Stock Market?," NBER Working Papers 8289, National Bureau of Economic Research, Inc.
  7. Schlote, Klaus Wilhelm, 1989. "Zu den Einflußfaktoren am deutschen Aktienmarkt bei festen und flexiblen Wechselkursen," Kiel Working Papers 363, Kiel Institute for the World Economy.
  8. Bennett McCallum, 2000. "On signal extraction and non-certainty-equivalence in optimal monetary policy rules, comments," Proceedings, Federal Reserve Bank of San Francisco, Federal Reserve Bank of San Francisco.
  9. Asaf Bernstein & Eric Hughson & Marc D. Weidenmier, 2008. "Can a Lender of Last Resort Stabilize Financial Markets? Lessons from the Founding of the Fed," NBER Working Papers 14422, National Bureau of Economic Research, Inc.
  10. Bernstein, Asaf & Hughson, Eric & Weidenmier, Marc D., 2010. "Identifying the effects of a lender of last resort on financial markets: Lessons from the founding of the fed," Journal of Financial Economics, Elsevier, Elsevier, vol. 98(1), pages 40-53, October.

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