The effect of monetary policy on stock returns under different financial structures

Abstract

This paper studies the reaction of stock returns to unexpected monetary policy changes under different financial structures. Using a country-level panel data set for twenty countries, I find that stock returns are negatively related to interest change surprises and that stock returns react more sensitive during recessions than during expansions. Furthermore, this paper provides evidence that unexpected interest rate changes have a greater effect on stock returns in bank-based countries, in countries with a low liberalization degree and in countries with a low stock market development degree, implying that the strength of unexpected monetary policy changes on stock returns depends on financial structures of countries. This is due to financing constraints of firms which are stronger during recessions, in bank-based countries, in countries with a low liberalization and a low stock market development degree leading to a higher sensitivity of firms to unanticipated interest rate changes.