Stock market's assessment of monetary policy transmission: The cash flow effect

Date
2022-05-30
Advisor
Instructor
Source Title
The Journal of Finance
Print ISSN
0022-1082
Electronic ISSN
1540-6261
Publisher
John Wiley & Sons, Ltd
Volume
77
Issue
4
Pages
2375 - 2421
Language
English
Type
Article
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Abstract

We show that firm liability structure and associated cash flows matter for firm behavior and that financial market participants price stocks accordingly. Stock price reactions to monetary policy announcements depend on the type and maturity of debt issued by the firms and the forward guidance provided by the Fed, both at and away from the zero lower bound. Further, the marginal stock market participant knows the current liability structures of firms and does not rely on rules of thumb. The cash flow exposure at the time of monetary policy actions predicts future investment, assets, and net worth, clearly violating the Modigliani-Miller theorem.

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Published Version (Please cite this version)