Interaction between monetary policy and stock pricesa comparison between the Caribbean and the US

Abstract

We analyse the interaction between monetary policy and stock prices in Barbados, Jamaica and Trinidad and Tobago (T&T), both individually and jointly as the Caribbean countries using structural VARs, as proposed in Bjornland and Leitemo (2009). Annual and monthly frequencies are used for Barbados while, due to data availability constraints, only annual data is employed for Jamaica and T&T. First, our results show that in Barbados, with monthly (and annual) data, a monetary policy shock that increases the Treasury bill rate by 100 basis points causes stock prices to increase by 0.038% (and fall by 0.06%), while a stock price shock that increases stock prices by 1% results in an increase in the Treasury bill rate of 30 (and 190) basis points, respectively. For Jamaica, a monetary policy shock causes stock prices to fall by 0.3%, while a stock price shock that increases stock prices by 1% results in an increase in the Treasury bill rate of 400 basis points. Likewise for T&T, a shock to monetary policy causes stock prices to fall by 0.1% and a shock leading to a 1% increase in real stock prices causes the Treasury bill to increase by 330 basis points. When we analyse the three Caribbean countries jointly, a positive 1% stock price shock causes the Treasure bill rate to increase by 700 basis points and a positive monetary policy shock cause stock price to fall by 0.027%. Therefore, our results in relation to the signs of the relationships with annual data are similar to those of the US in Bjornland and Leitemo (2009), however the magnitudes are substantially different. The effect of a monetary policy shock is greater in the US, while the effect of a stock price shock is smaller in the US than in our Caribbean economy. We argue that this reflects clear differences between the US and Caribbean economies. Caribbean countries have slower information channels, for example, by targeting the 30-day Certificate of Deposit (COD) rate instead of the overnight Treasury bill rate as in the US. This supports our results that only with annual data we find similar relationships as in the US with monthly data. Moreover, the higher economic instability in the Caribbean is clearly observed in the larger effect that a stock price increase has on interest rates versus the USA.