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Dynamic relationships between stock market performance and short term interest rate Empirical evidence from Sri Lanka

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  • Pallegedara, Asankha

Abstract

This study examines the dynamic relationships between stock market performance and the interest rates in Sri Lanka during June 2004 to April 2011. We use all share price index in the Colombo stock exchange as a measure of stock market performance indicator and Sri Lanka interbank offer rate as a measure of interest rate. We employ some conventional time series econometric techniques namely Unit root test, cointegration test, vector auto correction model (VECM), Granger-Causality test and Impulse response functions (IRF) to trace out the relationships between stock market index and interest rate. The findings of interest include stock market performance is negatively associated with interest rate in the long run while no causal relationship is found in the short run.

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Paper provided by University Library of Munich, Germany in its series MPRA Paper with number 40773.

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Date of creation: 18 Aug 2012
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Handle: RePEc:pra:mprapa:40773

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Keywords: Colombo Stock Exchange; interest rate; cointegration; vector error correction model;

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  1. Campbell, John, 1987. "Stock Returns and the Term Structure," Scholarly Articles 3207699, Harvard University Department of Economics.
  2. Chen, Nai-Fu & Roll, Richard & Ross, Stephen A, 1986. "Economic Forces and the Stock Market," The Journal of Business, University of Chicago Press, University of Chicago Press, vol. 59(3), pages 383-403, July.
  3. Serena Ng & Pierre Perron, 2001. "LAG Length Selection and the Construction of Unit Root Tests with Good Size and Power," Econometrica, Econometric Society, Econometric Society, vol. 69(6), pages 1519-1554, November.
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  8. Yu Hsing, 2004. "Impacts of Fiscal Policy, Monetary Policy, and Exchange Rate Policy on Real GDP in Brazil: A VAR Model," Brazilian Electronic Journal of Economics, Department of Economics, Universidade Federal de Pernambuco, Department of Economics, Universidade Federal de Pernambuco, vol. 6(1), February.
  9. Johansen, Soren, 1991. "Estimation and Hypothesis Testing of Cointegration Vectors in Gaussian Vector Autoregressive Models," Econometrica, Econometric Society, Econometric Society, vol. 59(6), pages 1551-80, November.
  10. Maysami, Ramin Cooper & Koh, Tiong Sim, 2000. "A vector error correction model of the Singapore stock market," International Review of Economics & Finance, Elsevier, Elsevier, vol. 9(1), pages 79-96, February.
  11. Mukherjee, Tarun K & Naka, Atsuyuki, 1995. "Dynamic Relations between Macroeconomic Variables and the Japanese Stock Market: An Application of a Vector Error Correction Model," Journal of Financial Research, Southern Finance Association;Southwestern Finance Association, Southern Finance Association;Southwestern Finance Association, vol. 18(2), pages 223-37, Summer.
  12. Johansen, Soren, 1988. "Statistical analysis of cointegration vectors," Journal of Economic Dynamics and Control, Elsevier, Elsevier, vol. 12(2-3), pages 231-254.
  13. L. E. Arango & A. Gonzalez & C. E. Posada, 2002. "Returns and the interest rate: a non-linear relationship in the Bogotastock market," Applied Financial Economics, Taylor & Francis Journals, Taylor & Francis Journals, vol. 12(11), pages 835-842.
  14. Cheung, Yin-Wong & Ng, Lilian K., 1998. "International evidence on the stock market and aggregate economic activity," Journal of Empirical Finance, Elsevier, Elsevier, vol. 5(3), pages 281-296, September.
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