To What Extent Does the Volatility in the U.S Market Correlate With

To What Extent Does the Volatility in the U.S Market Correlate With and Influence Key Economic Indicators, Namely GDP, Unemployment Rates and Inflation?

Abstract 

Aim: The aim of this research paper is to determine the impact of stock market volatility over the economic indicator, namely GDP.

Method: The data for stock market volatility (S&P 500) was considered from investing.com while the macroeconomic indicators were obtained from World Data Bank. The dependent variable which was considered is GDP of USA. On the other hand, stock market volatility was the independent variable of this study. In addition, the FDI to GDP ratio, export of goods and services to GDP ratio, unemployment and inflation was considered as the control variables of this study. The log for GDP values was taken to normalise the values. The unit root testing was carried out using the ADF. After the determination and confirmation regarding the presence of unit root in the time series data, the ARDL model was applied due to the presence of unit root.

Findings: The results determined that there is significant influence of stock market volatility, and unemployment rate over the GDP of USA. While, the effect of FDI/ GDP ratio, exports of goods and services/GDP ratio and inflation was determined to be insignificant over the GDP of the country.

Key Words: GDP, unemployment rate, inflation, foreign direct investment (FDI), ARDL, ADF

Introduction 

Alongside other public entities, the stock exchanges functions as the forum for security’s exchange from semi-governmental and governmental bodies (Chauhan, Gupta and Shridhar, 2023). In this manner, they serve to enable the transfer of bonds and equities that have been issues by organisations with shared ownership. It has been argued in the study of Gulyamov (2021) that employing various mechanisms such as over the counter sales and free competition, the stock market serves as a platform for exchange of shares. In contrast to this, the transactions might also be applicable to the government securities. On the other hand, agreements are established at valuations by the individuals comprising the stock exchanges those are considered equitable on the basis of underlying tenets of demand and supply within the realm of commerce. The securities market is also considered as the financial marketplace which allows the exchange of various bonds, debentures, shares and equities. As per the study conducted by Ravikumar and Saraf (2020), across diverse international stock exchanges, equities are exchanged on diurnal basis. 

In terms of promoting the economic development and growth, the procurement of sufficient liquidity is regarded as the pivotal factor (Aripin, Wibowo and Ariyanti, 2024). The stock market forum is open for the public, in which the mechanism of vending and purchasing allows trading of corporate equities at a consensually determined valuation. The stock market of USA can have influence over the global and domestic economic conditions, investor sentiment, political developments and corporate earnings (Sun, Bao, and Lu, 2021). It is due to the reason that the stock market volatility can result in opportunities and risks for the investors. Thus, it is important for the investors to analyse the company fundamentals, thorough research, conduct risk management strategies and track market trends when investing in major stock indices such as S&P 500. It is due to the reason that key economic indicator such as GDP, take centre stage in this exploration, providing a comprehensive overview of economic performance.

Literature Review

Impact on GDP

It has been argued in the study of Fatmawati (2022) that the total value of services and goods those are produced in the country over a specific period is known as GDP. The study of Giri and Joshi (2017) determined positive correlation among the economic growth and stock prices. On the other hand, the study by Alexius and Sp (2018) also pointed out the relationship between stock prices and GDP. In contrast, Huy et al. (2021) argued that there is no positive relationship between economic growth and stock prices. Therefore, the following hypothesis is developed to test the effect of stock market volatility on US GDP:

H1: There is a significant influence of stock market volatility over the GDP of USA.

On the other hand, an increase in a country's exports leads to a positive trade balance and reduces imports. In this way, the value of currency is increased due to the increase in exports of the country. As per the study of Okyere and Jilu (2020), export of goods and services has a positive association with the GDP of the country. In this manner, considering the evidence on FDI and export of goods and service over the GDP of the country, several hypothesis have been developed and presented below:

H2a There is a significant influence of FDI over the GDP of USA.

H3a: There is a significant influence of export of goods and services over the GDP of USA.

It has been argued in the study of Angelina and Nugraha (2020) that inflation is considered as the rate at which there has been an increase in general level of services and goods. Indicating a growing economy, moderate inflation is usually desirable while the purchasing power is eroded due to high inflation and has effect on GDP. On the other hand, the value of money is also reduced due to high inflation rate and can lead to economic instability as the GDP is reduced. In this manner, the stock market prices should provide hedge against the inflation as the profits and revenues of the company must grow after the period of adjustment with inflation which will also result in increase of GDP (Moyo and Tursoy, 2020). In contrast to this, the varying influence of the inflation over the stocks tend to improve the risk premium and equity market volatility and overall GDP of the country (Basri et al., 2022). Therefore, the effect of inflation should be determined over the GDP of USA in order to recognise the varying impact and association among both the variables. 

In addition to the stock market volatility, the FDI can also have huge effect over the inflation rate of the country and negatively influence the GDP. As per the study conducted by Fernandez and Joseph (2020), the negative association of the FDI with inflation is on the basis of the fact that it acts as a tax on investment as there is increase in cost of transportation, capital and labour due to inflation which results in less profitable investment for the foreign investors. The study of Mostafa (2020) argued that there is negative association among the inflation and GDP of the country. In this manner, the effect of inflation is essential to be determined over the GDP of USA. On the other hand, the export of goods and services can have influence over the inflation because of the supplies pattern of the domestic services and goods to the household consumers (Olusola et al., 2022). It has been argued in the study of Stievany and Jalunggono (2022) that increase in the exports of the country results in the reduction in inflation rate while increasing the GDP. Thus, considering the theoretical evidence with respect to the effect of the inflation over GDP, following hypothesis have been developed:

H4a: There is a significant influence of inflation over the GDP of USA.

The study of Alenda-Demoutiez and Mügge (2020) defined the unemployment rate as the one which measures the percentage of labour force which is actively seeking employment or is jobless. The strong labour market is denoted by the lower unemployment rates which leads to healthier economy or GDP and higher consumer spending. The stock market volatility can have uncertainty in the profits and revenues of the company due to which company’s employee turnover rate is increased. In this manner, the unemployment rate in the country is increased due to higher employee turnover while reducing the GDP. It has been argued in the study of Moradi et al. (2021) that stock market volatility can have negative influence over the unemployment rate of the country. 

The FDI results in the increase in investment and employment opportunities for the country. As per Vasa and Angeloska (2020), there is a negative relationship among the FDI and unemployment rate of the country. It is due to the reason that with the increased FDI, the unemployment rate of the country is expected to reduce which contributes positively towards the GDP of the country. On the other hand, the study of Edeh et al. (2020) argued that export of goods and services results in creating more employment opportunities as increase in exports results in the increase of production of goods and services due to which more labour force is required. In this manner, following hypothesis have been developed to determine the influence of unemployment rate over the GDP of USA:

H5a: There is a significant influence of unemployment over the GDP of USA.

Conceptual Framework

The below figure 1 shows the conceptual framework of the study. In this manner, it can be determined that stock market volatility is the independent variable while the dependent variable include GDP. However, the control variables include unemployment rate, inflation FDI and export of goods and services which have been tested along the stock market volatility in all there models. 

Figure 1 Conceptual Framework

Theoretical Framework

The prediction of returns is crucial for the investors which can be done in association with the macroeconomic indicators in order to get the broader picture. Therefore, arbitrage pricing theory is adopted which is a pricing model through which a return is predicted using the association among macroeconomic factors and expected returns (Dewri and Noyel, 2024). As per the study conducted by Shah, Raza and Hashmi (2020), the arbitrage pricing theory is the asset pricing theory which posits that the returns of the assets can be forecasted through the linear relationship of expected returns of an asset and the macroeconomic factors that influence the risk of an asset. In this way, the arbitrage pricing theory model is considered in this study for determining the influence of stock market volatility over the GDP. 

Research Questions/Hypotheses

The research question which has been developed in this research paper is provided below:

To what extent does the volatility in the U.S market correlate with and influence key economic indicator, namely GDP?

In terms of the hypotheses, independent variable is stock market volatility while the dependent variables is GDP. In addition to this, several control variables have also been included in the model which involve inflation, unemployment rate, FDI and export of goods and services. 

Methodology

This study adopted quantitative research design for assessing the influence of stock market volatility over the GDP, inflation and unemployment rate of USA. The previous literature was used for the purpose of developing the hypotheses and variables for this study include stock market volatility, GDP, inflation, Unemployment, FDI and export of goods and services. Pertaining to the approach, the researcher adopted the deductive approach to test the hypothesis in context of USA in this study. The time series data has been gathered from the secondary sources of information and has been tested for presence of unit root using the Augmented Dickey-Fuller (ADF). As per Roza, Violita and Aktivani (2022), Augmented Dickey-Fuller (ADF), is used for the purpose of testing the presence of unit root in the time series data. After the determination of the unit root, the analysis has been carried out using the Autoregressive Distributed Lag (ARDL) model. The study of Rahman et al. (2020) also confirmed that the ARDL model can be used if there is presence of unit root in the data. 

Data Description 

The time series data has been gathered from the secondary sources of information. The stock market volatility (S&P 500) has been gathered from Investing.com from 2004 till 2022. The monthly returns were converted to yearly observations. On the other hand, the data related to GDP, inflation, unemployment rate, FDI and export of goods and services was obtained from World Data Bank from 2004 till 2022. 

Empirical Findings

Descriptive Statistics 

The descriptive statistics of the variables from this study is provided below. It can be determined that average stock market volatility was 13.8% as mean for stock volatility is determined to be 0.138 and is expected to deviate from 6.1%. In addition, the average FDI/GDP ratio for USA from 1983 to 2022 was 0 which is expected to deviate from 0.007. On the other hand, the average for export of goods and services/GDP ratio was determined to be 0.115 which is expected to deviate from 0.012. Moreover, the average for log GDP was determined to be 13.024 which is expected to deviate from 0.238. Furthermore, the average for unemployment rate was 6% which is expected to deviate from 1.6%. Lastly, the average for inflation was 2.8% which will deviate from 1.5%.

Table 1 Descriptive Statistics

Augmented Dickey-Fuller (ADF)

On the basis of the previous patterns, the unit root testing is essential aspect for the purpose of making predictions and calculating values. The study of Paparoditis and Politis (2018) argued that the historical data makes it challenging to assess the future value using traditional inferential statistics. Therefore, the ADF has been employed for the purpose of determining the unit root presence in the data.  

Table 2 Augmented Dickey-Fuller (ADF)

The results of ADF can be determined from table 2 with respect to the variables of this study. The null hypothesis of the ADF is grounded on the fact that there is presence of unit root in the data. It is evident that apart from the FDI, stock volatility and unemployment, all the variables have sig value above the threshold of 0.05 which suggest that null hypothesis has been failed to reject and there is presence of unit root in the data. Due to the presence of unit root in the time series data, ARDL model has been employed (Rahman et al., 2020). 

Autoregressive Distributed Lag (ARDL)

The below table shows the results of ARDL model with respect to GDP. It can be determined that GDP is not dependent on its first lag as B= -0.009, p= 0.161> 0.1. In the long run, there is no significant effect of stock volatility, FDI.GDP ratio, exports of goods and services/ GDP ratio, unemployment rate and inflation over the GDP of USA. On the other hand, with respect to the short term, the effect of stock volatility was determined on its second lag as B= -0.025, p= 0.051< 0.1. In addition to this, the unemployment rate was also determined to have significant effect over the GDP of USA in the first and second lag as well due to the reason that B= -0.435, p= 0.000< 0.01 and B= 0.223, p= 0.089< 0.1. 

Table 3 ARDL for GDP

Discussion  

Table 6 Hypothesis Assessment Summary

The results of the study determined that there is a significant effect of stock market volatility over the GDP of USA. Similarly, Giri and Joshi (2017) determined positive correlation among the economic growth and stock prices. Also, Alexius and Sp (2018) presented that there is association among the stock market prices and the GDP. However, the effect of FDI was determined to be insignificant over the GDP of USA. The results can be opposed based on the study by Sengupta, and Puri (2020) that FDI has a direct association with the GDP of the country. Moreover, the effect of exports of goods and services was also determined to be insignificant over the GDP of USA. The results do not support the findings of Okyere and Jilu (2020) that export of goods and services has a positive association with the GDP.  With respect to the Inflation, there is no significant influence of inflation over the GDP of USA. The results opposed the findings of Moyo and Tursoy (2020) that inflation has huge influence over the GDP. With respect to the unemployment rate, there was significant influence of unemployment rate determined over the GDP of USA. The results supported the findings of Moradi et al. (2021) that unemployment rate can have negative influence over the GDP of the country. 

Conclusion

The stock market forum is open for the public, in which the mechanism of vending and purchasing allows trading of corporate equities at a consensually determined valuation. The stock market of USA can have influence over the global and domestic economic conditions, investor sentiment, political developments and corporate earnings. Therefore, this study has been conducted to determine the influence of stock market volatility over the GDP of USA. Apart from these, four control variables such as unemployment, inflation, FDI/GDP ratio and export of goods and services/GDP ratio were also considered. The data for stock market volatility (S&P 500) was considered from investing.com while the macroeconomic indicators were obtained from World Data Bank. The unit root testing was carried out using the ADF. After the determination and confirmation regarding the presence of unit root in the time series data, the ARDL model was applied due to the presence of unit root. The results determined that there is significant influence of stock market volatility, and unemployment rate over the GDP of USA. While, the effect of FDI/ GDP ratio, exports of goods and services/GDP ratio and inflation was determined to be insignificant over the GDP of the country.

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