Causality and Dynamic Relationships between Exchange Rate and Stock Market Indices in BRICS Countries: Panel/GMM and ARDL Analyses

Mourad Mroua

doi:10.2139/ssrn.3405475

Abstract

This paper examines the causality and the dynamic links between exchange rates and stock market indices in Brazil, Russia, India, China, and South-Africa (BRICS). Daily closing prices from January 2008 to February 2018 are used for the analysis. By applying the dynamic panel Generalized Method of Moments (GMM) model and the ARDL method, results show that exchange rate changes have a significant effect on past and current volatility of the BRICS stock indices. Besides, ARDL estimations reveal that exchange rate movements have a significant effect on short- and long-term stocks market indices of all BRICS countries. Our findings have implications for international investors who manage risks in their portfolios as well as for policymakers who are responsible for financial and macroeconomic stability.

Highlights

The dynamic relationship between exchange rates and stock market index prices is of great interest to many academics and researchers, as they play a crucial role in the economy
Our findings have implications for policymakers and market participants who try to manage the exchange rate will have a different dose of intervention if they know that the effects of currency depreciation are different than appreciation
A double methodology has been applied through the dynamic panel generalized method of moments (GMM) model and the auto-regressive distributed lag (ARDL) method to measure the short- and long-term relationships

Summary

Introduction

The dynamic relationship between exchange rates and stock market index prices is of great interest to many academics and researchers, as they play a crucial role in the economy. The literature in this area seems to be inadequate and the interactions between currencies and stock markets are still not clear. Previous results are somewhat mixed as to whether stock indexes lead exchange rates or vice versa and whether feedback effects (bicausality) even exist among these financial variables. Several studies conclude that exchange rates should lead to stock market index prices. Alternative studies reveal that changes in stock market index prices may influence movements in exchange rates via portfolio adjustments. This paper contributes to the literature in three ways as follows: first, we investigate simultaneously the causality and the dynamic links between exchange rates and stock market indices

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Conclusion