Monetary Policy and the Stock Market in the Covid Era

Abstract

In this article, I examine the period following the onset of the Covid-19 pandemic as a case study of how monetary policy affects the stock market. I decompose equity price movements between early 2020 and early 2022 into changes in expected cash flows, risk-free rates at which dividends are discounted, and a residual component containing risk premiums. I find that Federal Reserve policy actions had significant effects on stock prices through all three channels during the first two years of the pandemic. These effects dissipated and then reversed as the policy tightening of March 2022 approached.

Keywords: E43, E52, G12

JEL Classification: dividend-discount model, equity returns, risk-taking channel, term structure