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Stock prices, exchange rates and portfolio equity flows

Stock prices, exchange rates and portfolio equity flows PurposeThe purpose of this paper is to develop a new framework to test the hypothesis that portfolio model predicts a negative correlation between stock prices and exchange rates in a trivariate transmission channel for foreign portfolio equity investment.Design/methodology/approachThis paper utilizes panel data for eight economies to extend the Dumitrescu and Hurlin (2012) Granger non-causality test of heterogeneous panels to a trivariate model by integrating the Toda and Yamamoto (1995) approach to Granger causality.FindingsThe evidence suggests that stock prices Granger-cause exchange rates and portfolio equity flows Granger-cause exchange rates. However, the overall panel evidence casts doubt on the explicit trivariate model of portfolio balance model. The study shows that Indonesia may be the only case where stock prices affect exchange rates through portfolio equity flows.Research limitations/implicationsThe proposed test does not account for potential asymmetries or structural shifts associated with the crisis period. To isolate the impact of the Asian Financial crisis, this paper rather splits the sample period into two sub-periods: pre- and post-crises. The sample period and countries are also limited due to the use of the balance of payment statistics.Practical implicationsThe study casts doubt on the maintained hypothesis of a trivariate transmission channel, as posited by the portfolio model. Policy makers of an economy may integrate capital market and fiscal policies in order to maintain stable exchange rate.Originality/valueThis paper integrates a portfolio equity inflow variable into a single framework with stock price and exchange rate variables. It extends the Dumitrescu and Hurlin’s (2012) bivariate stationary Granger non-causality test in heterogeneous panels to a trivariate setting in the framework of Toda and Yamamoto (1995). http://www.deepdyve.com/assets/images/DeepDyve-Logo-lg.png Journal of Economic Studies Emerald Publishing

Stock prices, exchange rates and portfolio equity flows

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Publisher
Emerald Publishing
Copyright
Copyright © Emerald Group Publishing Limited
ISSN
0144-3585
DOI
10.1108/JES-12-2017-0361
Publisher site
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Abstract

PurposeThe purpose of this paper is to develop a new framework to test the hypothesis that portfolio model predicts a negative correlation between stock prices and exchange rates in a trivariate transmission channel for foreign portfolio equity investment.Design/methodology/approachThis paper utilizes panel data for eight economies to extend the Dumitrescu and Hurlin (2012) Granger non-causality test of heterogeneous panels to a trivariate model by integrating the Toda and Yamamoto (1995) approach to Granger causality.FindingsThe evidence suggests that stock prices Granger-cause exchange rates and portfolio equity flows Granger-cause exchange rates. However, the overall panel evidence casts doubt on the explicit trivariate model of portfolio balance model. The study shows that Indonesia may be the only case where stock prices affect exchange rates through portfolio equity flows.Research limitations/implicationsThe proposed test does not account for potential asymmetries or structural shifts associated with the crisis period. To isolate the impact of the Asian Financial crisis, this paper rather splits the sample period into two sub-periods: pre- and post-crises. The sample period and countries are also limited due to the use of the balance of payment statistics.Practical implicationsThe study casts doubt on the maintained hypothesis of a trivariate transmission channel, as posited by the portfolio model. Policy makers of an economy may integrate capital market and fiscal policies in order to maintain stable exchange rate.Originality/valueThis paper integrates a portfolio equity inflow variable into a single framework with stock price and exchange rate variables. It extends the Dumitrescu and Hurlin’s (2012) bivariate stationary Granger non-causality test in heterogeneous panels to a trivariate setting in the framework of Toda and Yamamoto (1995).

Journal

Journal of Economic Studies – Emerald Publishing

Published: Mar 4, 2019

References

  • Stock and foreign exchange market linkages in emerging economies
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  • On the relation between stock prices and exchange rates: a review article
  • Structural changes, common stochastic trends, and unit roots in panel data
  • Cointegration in panel data with structural breaks and cross-section dependence