Dynamic Relations between Macroeconomic Variables and Stock Prices

This study has examined the dynamic relationship between certain macroeconomic variables and stock prices in the UK and South Africa. Using the Johansen co-integration technique based on vector error correction model (VECM), the study finds one co-integrating vector for the UK data suggesting that macroeconomic variables have long run effect on stock prices, with the stock prices being positively related to industrial production but negatively related to both long term and inflation rates. The inflation rate was found to respond the most to shocks for the UK. The UK inflation rate can serve as a signal for the condition and state of the economy. No long run relationship was however found for the South Africa. The Granger causality test shows changes in industrial production in South Africa are better explained by both its past values and past stock market performance.