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Monetary Policy and the Stock Market: Theory and Empirical Evidence

  • Sellin, Peter
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    This paper gives a comprehensive review of the literature on the interaction between real stock returns, inflation, and money growth, with a special emphasis on the role of monetary policy. This is an area of research that has interested monetary and financial economists for a long time. Monetary economists have been interested in the question whether money has any effect on real stock prices, while financial economists have investigated whether equity is a good hedge against inflation. Empirical studies show that money can be helpful in predicting future stock returns. Empirical evidence also suggest that equity is not a good hedge against inflation in the short run but may be so in the long run. The short-run negative relation between stock returns and inflation can easily be explained by theoretical models. If the central bank conducts a countercyclical monetary policy this will result in a negative relation between inflation and stock returns, while if it conducts a procyclical policy we could observe a positive relation. According to both theoretical and empirical studies investors receive an inflation risk premium for holding equity. Copyright 2001 by Blackwell Publishers Ltd

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    Article provided by Wiley Blackwell in its journal Journal of Economic Surveys.

    Volume (Year): 15 (2001)
    Issue (Month): 4 (September)
    Pages: 491-541

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    Handle: RePEc:bla:jecsur:v:15:y:2001:i:4:p:491-541
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