Role of Economic Policy Uncertainty in the Connectedness of Cross-Country Stock Market Volatilities

Abstract

The implied volatility index is a forward-looking indicator of fear among stock market participants. We examine the extent to which the connectedness of fear among global stock markets is driven by the cross-country connectedness of economic policy uncertainty (EPU). We use data on stock market fear and EPU indices for 13 countries, which spans from January 2011 to December 2018. To measure the connectedness among stock market fear and EPU of our sample countries, we employ two connectedness models. A cross-sectional regression model is further employed to ascertain the extent to which EPU connectedness between two countries explains the connectedness of fear between their stock markets, while controlling for bilateral linkage and country-specific factors. We find that EPU connectedness between any two partner countries significantly drives the connectedness of fear between their stock markets. The driving potential not only holds for short- and long-term connectedness, but also after controlling for bilateral linkages (bilateral trade, geographical distance, common language) and country-specific (trade and financial openness of the transmitter country) factors indicating robustness in our results.

Global factors and the transmission between United States and emerging stock markets

“…The findings stress that EPU is an influential factor in driving the contagion from the United States to emerging stock markets. The findings are in line with literature that highlights the crucial role of EPU in driving spillovers among stock markets (e.g., Hasan et al, 2020; Youssef et al, 2021). In contrast, the results for individual markets show that EPU has a limited role in driving connectedness across sample stock markets.…”

Time‐frequency dynamics between fear connectedness of stocks and alternative assets

“…While such country‐ or regional‐wise analyses have their uses for certain types of market participants, they provide little awareness for investors interested in the dynamics of global (i.e., system‐wide) stock market fears transmission. A reasonable assessment of fear propagation on a global scale, apart from regional and country‐specific fears, is a critical factor even for forecasting the stock market fear of individual countries (Bouri, Lien, et al, 2018; Hasan, Naeem, Arif, Shahzad, & Nor, 2020).…”

Efecto de la incertidumbre de la política económica internacional sobre los mercados financieros latinoamericanos

“…Finalmente, los resultados del EPU de ambos países sobre el rendimiento de los mercados financieros demuestran lo establecido por Hasan et al (2020) sobre el factor transmisor de riesgo del EPU sobre los rendimientos de los mercados.…”

“…Esta aplicación evidencia, además, un efecto en el corto plazo del EPU sobre las fluctuaciones de los precios. También, autores como Hasan et al (2020), considerando 13 índices bursátiles de países emergentes, identificaron los determinantes de la conectividad neta entre las naciones, entre los cuales el EPU resultó como un factor de transmisión de riesgo entre países. Estos hallazgos se evidencian en toda la muestra, aunque predominantemente a corto plazo.…”

“…Este índice ha sido ampliamente utilizado por investigadores para estudiar la relación y los comovimientos de la incertidumbre y los diferentes mercados y activos financieros. Así, es posible encontrar investigaciones que utilizan el EPU aplicado a diferentes mercados y activos, por ejemplo a mercados financieros (Hasan et al, 2020), al mercado energético (Xu et al, 2021), a commodities como el petróleo (Sun et al, 2020), a las criptomonedas (Wang et al, 2019), al mercado de bonos (Haq et al, 2021), entre otros.…”