The Effect of Interest Rate Adjustment on the Stock Price Index in China

Abstract

The interest rate is one of the main tools used to control monetary policy in China. Changes in interest rates will affect the return on capital and the financial situation of enterprises, which will in turn have an impact on the stock market. What effect will interest rate adjustments have on the stock market? Are fluctuations in the interest rates and the stock market correlated? At present, there is no consensus on the answers to these questions. This paper studies these problems. In order to study the effect of the interest rate adjustment on the stock price index, this paper first conducts literature review and analysis, and then uses unit root test, Johansen integration test, Granger causality test and error correction model. The factors studied are the one-year deposit rate and the closing price of the Shanghai Composite Index from 1991 to 2015. It can be seen that the long-term relationship between the interest rate and stock prices is a reverse relation - when interest rates change, the stock price is adjusted in reverse. Specifically, (1) there is a long term reverse relationship between the interest rate and the stock price index, (2) interest rates are the Granger cause of the stock price index, and the stock price index is not the Granger cause of interest rates, (3) the stock price index cannot adjust to the interest rate in a short time.