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On stock market illiquidity and real-time GDP growth

Author

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  • Florackis, Chris
  • Giorgioni, Gianluigi
  • Kostakis, Alexandros
  • Milas, Costas

Abstract

This study examines whether stock market illiquidity forecasts real UK GDP growth using data over the period 1989q1-2012q2. Apart from standard linear model specifications, we also utilize non-linear models, which allow for regime switching behavior in terms of a liquid versus an illiquid market regime and over the phases of the business cycle. Our findings support a statistically significant negative relationship between stock market illiquidity and future UK GDP growth over and above the usual control variables. This relationship is found to be stronger during periods of highly illiquid market conditions and weak economic growth. Our out-of-sample forecasting analysis indicates that a regime-switching model of illiquid versus liquid market conditions predicts UK growth better than any other model. Actually, this model is the only one to significantly outperform the GDP growth forecasts published in the Bank of England's Inflation Report.

Suggested Citation

  • Florackis, Chris & Giorgioni, Gianluigi & Kostakis, Alexandros & Milas, Costas, 2014. "On stock market illiquidity and real-time GDP growth," Journal of International Money and Finance, Elsevier, vol. 44(C), pages 210-229.
    • Handle: RePEc:eee:jimfin:v:44:y:2014:i:c:p:210-229
    DOI: 10.1016/j.jimonfin.2014.02.006
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    More about this item

    Keywords

    G12; C32; C51; C52; Stock market illiquidity; Divisia money; GDP growth; Non-linear model; Real-time data;
    All these keywords.

    JEL classification:

    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • C32 - Mathematical and Quantitative Methods - - Multiple or Simultaneous Equation Models; Multiple Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models; Diffusion Processes; State Space Models
    • C51 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Model Construction and Estimation
    • C52 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Model Evaluation, Validation, and Selection

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