Stock market-based identification of fiscal policy shocks and their effects on asset prices and economic sentiment

This paper examines how expansionary fiscal policy shapes asset prices and economic sentiment in the United States. I estimate a daily heteroskedastic VAR within a Bayesian framework, in which fiscal shocks, capturing changes in government spending and tax policy, are identified through shifts in volatility. The model includes stock prices, implied volatility, a text-based daily economic sentiment index, the one-year Treasury yield, and the corporate bond spread. The empirical findings show that expansionary fiscal shocks generate a persistent increase in equity valuations, a pronounced decline in implied volatility and uncertainty, and a sustained improvement in news-based economic sentiment. Corporate credit spreads narrow, signaling easier external financing conditions, while short-term yields rise, consistent with expectations of subsequent monetary tightening. These results point to a clear risk-on response driven by risk-premium and confidence channels. Fiscal actions quickly reprice risk and credit conditions, offering valuable guidance for policymakers, investors, and portfolio managers assessing the macro-financial effects of discretionary fiscal measures. By combining high-frequency fiscal identification with both market-based and text-based indicators, the paper provides a more nuanced perspective on the transmission of fiscal policy to financial markets.