Stock Prices Response to Real Economic Variables: The Case of Germany
6 Pages Posted: 19 Jun 2002
This paper contests Fama's proxy hypothesis, which states that inflation is negatively related to real economic activity, and the negative relationship between stock returns and inflation reflects the positive impact of real variables on stock returns.
The study uses annual data covering the years 1960-2000, on the German economy, to test the hypothesis of the negative impact of real economic activity on stock returns.
The findings suggest that employment growth has a negative effect on stock returns and influences positively inflation. The rational lies in the fact that employment growth forecasts inflation which is expected to erode firms' profits. This is expressed through falling stock returns.
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