Monetary policy and stock market movement in the Philippines: A structural vector autoregression approach

• Main Authors: Sy, Deborah Kim S., Hofileña, Daniel S.
• Format: text
• Published: Animo Repository 2014
• Subjects: Economics
• Online Access: https://animorepository.dlsu.edu.ph/faculty_research/12207
• Institution: De La Salle University

As an emerging market in a region vulnerable to political turmoil, natural disasters, and financial contagion, the Philippines is prone to immense capital movements and fierce volatility shocks. The central bank of the Philippines (BSP), under an inflation targeting framework, acts as the harbinger of economic growth and stability. With the advent of financial liberalization, changes in monetary policy ostensibly cause financial instability by nurturing asset price bubbles or massive sell-offs—causing significant contractions and oscillations in economic activity. The study aimed to investigate the transmission mechanism of monetary policy to asset prices, as measured by the movements of the Philippine Stock Exchange Index (PSEi). The multi-sector approach takes into account the banking sector and their risk taking behavior; the foreign sector and their quest for higher returns; and the real economy with the performance of domestic firms. Monthly observations from 2000 to 2010 of multiple variables that best represent each sector were utilized. In order to model these, a Structural Vector Auto Regression (SVAR), which is a modified version of the Vector Auto Regression (VAR), is used to estimate unanticipated structural shocks. Our findings strongly indicate that the monetary authorities in the Philippines react appropriately to shifts in both foreign and domestic economic conditions. Furthermore, the short run effects of policy rates to the index is primarily attributed to myopia – the whimsical and capricious behavior of investors motivated by short-term benefits with little regard for long-term growth – which validates why most long term effects of shocks to the PSEi are zero while short term effects are erratic. The empirical evidence presented in the study can assist policy makers to cope with the strenuous financial environment and regional volatility most especially in newly integrating and industrializing nations.