Arosio, R., G. Giudici, and S. Paleari (2000), “Why Do (or Did?) Internet-Stock IPOs Leave So Much ‘Money on the Table?’,” Unpublished Manuscript, Milan University, Italy.
Bernanke, B., M. Gertler, and S. Gilchrist, (1996), “The Financial Accelerator and the Flight to Quality,” The Review of Economics and Statistics, Vol. 78 (February 1996).
Bond, S., and J. Cummins, (2000), “The Stock Market and Investment in the New Economy,” Brookings Papers on Economic Activity, No. 1, 61-124, 2000.
Galeotti, M, (1987), “On the Dual Relationship Between Flexible Accelerator and q Theories of Investment,” Revista Interazionale di Scienze Economische e Commerciali, Vol. 34, (1987), N. 8, 771-776.
Galeotti, M. and F. Schiantarrelli (1994), “Stock Market Volatility and Investment: Do Only Fundamentals Matter?”, Economica 61,147-65, May 1994.
Poterba, J, and L. Summers, (1988), “Mean Reversion in Stock Prices: Evidence and Implications,” Journal of Financial Economics, 22, 27-59.
Shiller, R., (1981), “Do Stock Prices Move too much to be Justified by Subsequent Changes in Dividends?”, American Economic Review, 71, 421-36.
Singh, A. and A. Singh, and B. Weisse (2001), “Information Technology, Venture Capital and the Stock Market,” Unpublished Manuscript, University of Cambridge, UK.
This paper is an extension of the work carried out in the World Economic Outlook, May 2001. We would like to thank Yutong Li and Cathy Song for excellent research assistance and Tamim Bayoumi, Riccardo Faini, and Laura Kodres for comments and suggestions.
In contrast, the relationship between stock valuations and consumption has been studied extensively in the literature; see Edison and Sløk (2001) for a recent survey.
In the investment literature, other channels such as the flexible accelerator channel (Jorgenson, 1963) and the credit channel (Bernanke, Gertler, and Gilchrist, 1996) are also mentioned. However, the purpose in the empirical analysis below is not to identify the exact channels of transmission and given the dramatic developments in stock prices over the last decade, it is the conjecture that the cost of new capital relative to the cost of old capital has been the key determinant of investment. Furthermore, there exists a large literature discussing to what extent the additional channels can be derived from Tobin’s q theory (see for example Abel, 1979 and Galeotti, 1987).
The intuition in their model is to a large extent the same as in the new economy cycle shown in Figure 2; if markets in certain periods are overvalued, financing possibilities increase and there are opportunities for companies to increase investment. Using data for the United States, Hu (1995) finds that stock market volatility and its changes are negatively related to investment growth which is the opposite conclusion found in the work by Galeotti and Schianterelli (1994). The difference is the way in which volatility is calculated and if it is associated with an underlying increasing trend (which makes it a fad or bubble instead of high frequency noise).
Trace-tests for cointegration suggest that for all countries at least one cointegration vector exists, which can be interpreted as an investment function. The reduced form VAR was chosen since it does not impose potentially faulty restrictions on the system (due to the short period analyzed), and in addition, calculating confidence intervals for impulse-response functions when cointegration is imposed, requires additional restrictive assumptions.
For Germany the data ends in 1999:4.
The real interest rate is defined as the interest rate minus the twelve-month change in the consumer price index. See data appendix for the sources of the data.
Again, partly as a consequence of the different financial systems (market-based/bank-based).
Note, that there is no exchange rate conversion taking place and hence the numbers do not change if we instead write for example “cents per euro”. Cents-per-dollar was used for all countries to keep the description of the results as simple as possible.