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Monetary Policy Shocks and Portfolio Choice

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  • Fratzscher, Marcel
  • Saborowski, Christian
  • Straub, Roland

Abstract

The paper shows that monetary policy shocks exert a substantial effect on the size and composition of capital flows and the trade balance for the United States, with a 100 basis point easing raising net capital inflows and lowering the trade balance by 1% of GDP, and explaining about 20-25% of their time variation. Monetary policy easing causes positive returns to both equities and bonds. Yet such a monetary policy easing shock also induces a shift in portfolio composition out of equities and into bonds, implying a negative conditional correlation between flows in equities and bonds. Moreover, such shocks induce a negative conditional correlation between equity flows and equity returns, but a positive conditional correlation between bond flows and bond returns. The findings thus provide evidence for the presence of a portfolio rebalancing motive behind investment decisions in equities, but the dominance of what is akin to a return chasing motive for bonds, conditional on monetary policy shocks. The results also shed light on the puzzle of the strongly time-varying equity-bond return correlations found in the literature. JEL Classification: F4, E52, G1, F32

Suggested Citation

  • Fratzscher, Marcel & Saborowski, Christian & Straub, Roland, 2009. "Monetary Policy Shocks and Portfolio Choice," Working Paper Series 1122, European Central Bank.
  • Handle: RePEc:ecb:ecbwps:20091122
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    References listed on IDEAS

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    Cited by:

    1. Hristov, Nikolay & Hülsewig, Oliver & Wollmershäuser, Timo, 2014. "The interest rate pass-through in the Euro area during the global financial crisis," Journal of Banking & Finance, Elsevier, vol. 48(C), pages 104-119.
    2. Rilind Kabashi & Katerina Suleva, 2016. "Loan Supply Shocks in Macedonia: A Bayesian SVAR Approach with Sign Restrictions," Croatian Economic Survey, The Institute of Economics, Zagreb, pages 5-33.
    3. Simone Auer, 2014. "Monetary Policy Shocks and Foreign Investment Income: Evidence from a large Bayesian VAR," Working Papers 2014-02, Swiss National Bank.
    4. Hristov, Nikolay & Hülsewig, Oliver & Wollmershäuser, Timo, 2012. "Loan supply shocks during the financial crisis: Evidence for the Euro area," Journal of International Money and Finance, Elsevier, pages 569-592.
    5. repec:bla:sajeco:v:85:y:2017:i:3:p:430-454 is not listed on IDEAS
    6. Ludmila Fadejeva & Martin Feldkircher & Thomas Reininger, 2014. "International Transmission of Credit Shocks: Evidence from Global Vector Autoregression Model," Working Papers 2014/05, Latvijas Banka.
    7. Fadejeva, Ludmila & Feldkircher, Martin & Reininger, Thomas, 2017. "International spillovers from Euro area and US credit and demand shocks: A focus on emerging Europe," Journal of International Money and Finance, Elsevier, vol. 70(C), pages 1-25.
    8. Mustafa Çakir & Alain Kabundi, 2017. "Transmission of China's Shocks to the BRIS Countries," South African Journal of Economics, Economic Society of South Africa, pages 430-454.

    More about this item

    Keywords

    Asset Prices; capital flows; monetary policy; portfolio choice; sign restrictions.; trade balance; United States; vector auto regressions;

    JEL classification:

    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
    • F32 - International Economics - - International Finance - - - Current Account Adjustment; Short-term Capital Movements
    • F4 - International Economics - - Macroeconomic Aspects of International Trade and Finance
    • G1 - Financial Economics - - General Financial Markets

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