A VARMA Analysis of the Causal Relations Among Stock Returns, Real Output, and Nominal Interest Rates

Previous research has documented a negative relation between common stock returns and inflation. Recently, Fama [3] and Geske and Roll [6] have argued that this relation results from a more fundamental one between real activity and expected inflation. Stock returns, they argue, signal changes in rea...

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Bibliographic Details
Published in:The Journal of finance (New York) 1985-12, Vol.40 (5), p.1375-1384
Main Authors: JAMES, CHRISTOPHER, KOREISHA, SERGIO, PARTCH, MEGAN
Format: Article
Language:English
Subjects:
Analytical estimating
Anticipated inflation
Causality
Common stock
Hypotheses
Industrial production
Inflation
Inflation rates
Monetary base
Money supply
Nominal interest rates
Production estimates
Rates of return
Relations
Statistical analysis
Treasury bills
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Summary:Previous research has documented a negative relation between common stock returns and inflation. Recently, Fama [3] and Geske and Roll [6] have argued that this relation results from a more fundamental one between real activity and expected inflation. Stock returns, they argue, signal changes in real activity, which in turn affect expected inflation. However, unlike Fama, Geske and Roll argue that changes in real activity result in changes in money supply growth, which in turn expected inflation. Empirical tests have analyzed separately each link in the proposed causal chain. In this article, we investigate simultaneously the relations among stock returns, real activity, inflation, and money supply changes using a vector autoregressive moving average (VARMA) model. Our empirical results strongly support Geske and Roll's reversed causality model.
ISSN:0022-1082
1540-6261
DOI:10.1111/j.1540-6261.1985.tb02389.x