Monetary Policy through Production Networks: Evidence from the Stock Market

Abstract

We study the importance of production networks for the transmission of macroeconomic shocks using the stock market reaction to monetary policy shocks as a laboratory. We decompose the overall effect of monetary policy shocks into a direct effect and a network effect and attribute 55 to 85 percent of the overall effect to the network effect. Large network effects are a robust feature of the data, and we document similar patterns in realized cash-flow fundamentals. A simple model with intermediate inputs predicts that the reaction of stock returns to shocks follows a spatial autoregression, which we exploit for our empirical strategy. Our results suggest that production
networks are an important mechanism for transmitting aggregate shocks to the real economy.

Keywords: Input-Output Linkages, Spillover Effects, Asset Prices, High Frequency Identification

JEL Classification: E12, E31, E44, E52, G12, G14