Stock market performance: Reaction to interest rates and inflation rates

Abstract

This paper investigates the wealth effects of the consumer price index, interest rate, domestic credit and real economic activity on the Amman Stock Exchange performance. Over the period 1991–2020 using the autoregressive distributed lag (ARDL) bounds test. While the interest rate is a powerful monetary tool to fight inflation and recession, it can be detrimental to investors. The target variables, consumer price index (CPI) and interest rate (IDR), are both highly significant with the correct signs. An increase of 1 percent in CPI and IDR leads to a fall in stock prices by 1.6 percent and 5 percent, respectively. While the central bank is targeting inflation by raising interest rates, its actions reflect negatively on the stock market. The short-run model confirms the causality from the independent variables to the dependent variable. Moreover, the error correction term (ECT) is very high and significant at the 1 percent level amounting to 83.3 percent, which confirms the evidence of the long-run relationship. Monetary objectives are really important, but financial stability is also important.

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