A Test of the Proxy Effect Hypothesis: Evidence from the Pacific Basin Countries

Document Type

Article

Publication Title

Quarterly Journal of Business and Economics

ISSN

0747-5535

Volume

37

Issue

3

First Page

40

Last Page

52

Publication Date

Summer 9-1-1998

Abstract

This study examines whether the proxy-effect hypothesis can adequately explain the negative relationship between stock returns and expected inflation for the four Pacific Basin countries—Hong Kong, Singapore, South Korea, and Taiwan. The extent to which inflation rate proxies expected economic activity and inflation variability in the stock return-inflation relationship is investigated. Both monthly and quarterly data are employed in this study. We find that negative and statistically significant relationship between stock returns and inflation rate still persists for these four countries even after the effects of expected economic activity and inflation variability have been explicitly incorporated. Therefore, the findings of this study do not support the proxy-effect hypothesis for the four Pacific Basin countries. Furthermore, these results are consistent with those of other studies that have also rejected the proxy-effect hypothesis for major industrialized countries.

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