{"id":45914,"date":"2024-06-25T12:35:32","date_gmt":"2024-06-25T12:35:32","guid":{"rendered":"https:\/\/essays.homeworkacetutors.com\/2024\/06\/effect-of-economic-policy-and-political-uncertainty-on-stock-market-performance\/"},"modified":"2024-06-25T12:35:32","modified_gmt":"2024-06-25T12:35:32","slug":"effect-of-economic-policy-and-political-uncertainty-on-stock-market-performance","status":"publish","type":"post","link":"https:\/\/www.colapapers.com\/us\/effect-of-economic-policy-and-political-uncertainty-on-stock-market-performance\/","title":{"rendered":"Effect of Economic Policy and Political Uncertainty on Stock Market Performance"},"content":{"rendered":"
\n

Does Economic policy and
\npolitical uncertainty effect stock market performance and firms\u2019 investment<\/strong><\/p>\n

ABSTRACT<\/h3>\n

This
\npaper examines the effect of economic policy and political uncertainty and its
\ncomponents on stock market performance and firm\u2019s investment in United Kingdom
\nand United States. It is found that economic policy and political uncertainty
\nin relation with firms\u2019 level investment in United Kingdom and United States
\nwhich is shown by the volatility of stock market index depress firm\u2019s
\ninvestment decisions. When firms are uncertain about the profit or loss in
\nmaking an investment to the company or are doubt about cost of doing business,
\nhence they become more careful with investment strategy as there will always
\nhave possibility for regulation, tax and health care to change. Firms with
\nhigher risk and during recession are more likely to have are highly sensitive
\nto economic policy and political uncertainty. The effect of economic policy and
\npolitical uncertainty on stock market performance in United Kingdom shows that
\nthe increase in uncertainty could reduce the stock market performance. However,
\nin United States, the stock market performance does not seem to be influenced
\nby economic policy and political uncertainty. As during recession and economic
\nand politic uncertain, firms will hold their investment until the uncertainty
\nand recession are recovered. This might help to control the negative impact of
\neconomic policy and political uncertainty on stock market performance. <\/p>\n

INTRODUCTION<\/h2>\n

Concerns about economic policy and political uncertainty have triggered in the wake of the global economy and financial crisis, impact on stock market and investors decision. Economic policy are divided into more than one category such as Monetary, fiscal, healthcare, national security, regulatory, political, and trade policy. One of these category could be one of the main driver to economic uncertainty. Christopher Thiem (2018) research found that fiscal policy plays an important role as net transmitter of uncertainty shocks, while trade policy is only a weak integrated and a distinct net receiver. Christopher Thiem (2018) all add that in the short run, the total of economic policy uncertainty connectedness reacts significantly to many events in- and outside of the political sphere. The auditor also argue that large movements in the level of policy-related uncertainty do not always trigger significant spill over effects and vice versa. For example, The New York Times mention in the paper that the even when Britain exit from the European Union <\/a>shocked global markets. Also it is found that the pound plunged to its lowest level since 1985. People in corporation, investors and stakeholders of a company are very particular in the performance of stock either in a market or a company. The price of a company\u2019s shares are frequently use as an indicator in determining the overall strength and health of a company. The study of the impact of economic policy uncertainties is important as it could help company and investors in making strategy in investment and also reducing risk. Generally, if a company\u2019s share price increased over time, it shows that the company\u2019s performance is good and the management is doing a great job in meeting targeted achievements. Conversely, a decline in stock price is consider as a poor performance and high risk of a firm. This research paper will explore specifically in the performance of stock in market. There are many factors that could affect the stock performance on the market such as the overall health of the economy which will be explained in details in this paper. Other than that, the condition of the stock market itself and the decrease in demand and the health and performance of the company issuing the stock are also the factor that influence the changes in stock market performance. Stocks will usually face the fall in price during economic downturns as investors will be less active in participating in investments and risk of a stock might increase which could lead to lose. This dissertation\u2019s main objective is to see does economic and policy uncertainties give impact on firm investment and stock market performance. This paper will also explore on the effect of economic policy uncertainties on firm\u2019s investment. F. Pietrovito (2009) paper\u2019s found that the stock market development and the specialization of the financial system towards arm\u2019s length instead of bank financing has a positive effect on firms\u2019 investment decisions. Taken together, these results suggest that firms with higher growth opportunities accumulate more capital and that the stock market has a key role in channelling funds toward investment projects. The study whether economic policy uncertainty has intensified the 2007-2009 recession and weakness recovery has been discussed in recent paper of Baker et al. (2013).\u00a0 Apart from that, this paper objective is also to show how political uncertainties give impact on the stock price. This paper is divided into two categories which are the first part is the empirical base which contain the research on the effect economic policy uncertainty on firm investment and stock market participant. The second part is the literature base research regarding the issue how political uncertainty give impact on stock price. In order to investigate the impact of economic policies and political uncertainties to financial crisis, the impact on stock market and investment decision, I have selected few articles as a guidance in making these dissertation. Those articles and readings are the combination of many scope in policy uncertainties and socks market. They are include the turbulence and uncertainty for the market after the British exit the Europe, measuring economic policy uncertainty, how does political scenario affect the stock market, inflation and inflation uncertainty in the United Kingdom, how political changes affect investors decision and stock market and how this event lead to economic uncertainties and interest rate uncertainty and economy and etc. The literature review on these articles and readings will be written in the first section of this paper. There are a few problems that I have been facing in the early stage of making this dissertation. One of them is the problem in making the research when my ability to interpret the impact of political news on financial markets is constrained by the lack of theoretical guidance. Models in which asset prices respond to political news are notably absent from mainstream finance theory. Other than that, most research that have been done on economic policy and political uncertainty were based in United States. Hence, the references that I could refer to is limited. The data of stock return volatility of United Kingdom and United States are only available up to the year 2015. Hence, the current impact on stock market performance and firm investments due to the changes in policies cannot be analyse and evaluate. My data and investigation year range is 20 years starting from 1995 to 2015. After the analysis of economic policy uncertainty index and volatility of stock price data using OLS regression from Microsoft Words and Eviews Software, the result shows that there positive and negative correlation between these two indexes. The paper proceeds as follows. The methodology and methods are presented in the next section. Data and variables are specified in this section. Econometric issues and empirical results are discussed in section 3. Section 4 offers concluding remarks.<\/p>\n

LITERATURE
\nREVIEW<\/h2>\n

There are a few articles, journals and news that are
\nbeing discussed in this research paper in order to explore, investigate and
\nfind the answer to the research question. This paper main research is related
\nto the economic policy uncertainty. According to that, in the process of understanding the topic of this
\ndissertation, a deliberation on a journal titled \u2018Measuring Economic Policy
\nUncertainty\u2019 written by Scott R. Baker, Nicholas Bloom and Steven J. Davis in The Quarterly
\nJournal of Economics<\/em>,<\/em> Volume
\n131, Issue 4, on 1 November 2016. In this journal, Scott R. Baker, Nicholas Bloom and Steven J. Davis (2009)
\nfound the impact of uncertainty to economic.
\n\u201cFederal Open Market Committee (2009)\u00a0and
\nthe International Monetary Fund\u00a0(IMF) (2012,\u00a02013) suggest that
\nuncertainty about U.S. and European fiscal, regulatory, and monetary policies
\ncontributed to a steep economic decline in 2008\u20132009 and slow recoveries
\nafterward.\u201d (Scott R. Baker,
\nNicholas Bloom and Steven J. Davis, 2016, p. 1). Other
\nthan, Scott R. Baker, Nicholas Bloom
\nand Steven J. Davis (2016) also found out that Bernanke
\n(1983), who points out that high uncertainty
\ngives firms an incentive to delay investment and hiring when investment
\nprojects are costly to undo or workers are costly to hire and fire.\u00a0It is
\nhigh possibility that in the period when the uncertainties decrease, firms will
\nincrease the hiring and investment in order to meet pent-up demand. \u201cThe other reasons for a depressive effect of uncertainty include
\nprecautionary spending cutbacks by households, upward pressure on the cost of
\nfinance (e.g.,\u00a0Pastor and Veronesi 2013;\u00a0Gilchrist, Sim, and Zakrajsek 2014), managerial risk aversion (e.g.,\u00a0Panousi
\nand Papanikolaou 2012), and interactions between
\nnominal rigidities and search frictions (Basu and Bundick 2012;\u00a0Leduc and Liu 2015)\u201d (Bloom et al., 2016, p. 2). In the aim to
\nunderstand inflation uncertainties in United Kingdom, a journal titled
\n\u2018Inflation and Inflation Uncertainty in The United Kingdom, Evidence From Garch
\nModelling\u2019 written by A. Kontonika (2004) is being chosen to study the
\ntheoretical logic of how inflation is related to economic policy uncertainty
\nand could lead to the sensitivity of stock market performance and firms\u2019
\ninvestment. The author of the journal highlighted that the lower average
\ninflation lead to lower inflation uncertainty with apparent economic benefits.
\n\u201cThe idea that a rise in the level of inflation raises uncertainty about future
\ninflation, is central in Friedman\u2019s (1977) Nobel address.\u201d (A. Kontonika, 2004,
\np. 526). Regarding to that statement, the author said that when inflation is
\nlow, policymakers will try to keep it so, thus uncertainty concerning future
\nbenefit will so be low. Other than that, policy makers will maximise their own
\npolitically motivated aim function that is positively-related to economic
\nstimulation through monetary surprises and negatively-related to monetary
\ngrowth. As\u00a0uncertainty\u00a0about short-run inflation can\u00a0reflect\u00a0uncertainty\u00a0about short-run aggregate demand, which\u00a0can\u00a0be influenced by many types
\nof economic\u00a0policies, thus this
\nmakes sense. Monetary\u00a0policy\u00a0is
\nmore concerned with stabilizing\u00a0inflation\u00a0in
\nthe longer term. Hassett
\nand Metcalf (1999) in a research paper considering the impact of tax policy
\nuncertainty on firm level investment argue that major changes in tax policy in
\nUnited Kingdom have changed the cost of capital and returns on capital
\ninvestment. \u201cThe view that tax uncertainty harms investment depends importantly
\non the irreversibility assumption, and the findings that randomness in output
\nprices retards investment (Pindyck, 1998) in such models\u201d (Hassett and Metcalf,
\n1999, p. 372). Some firm might invest today to see an Input Tax Credit
\nintroduced while some other firms might delay their investment to see an
\nexisting Input Tax Credit repealed. Firms will normally use this strategy to
\nreduce the risk of paying tax on output of their business <\/p>\n

On top of that topic, the other literature review is
\nabout the impact of economic policy uncertainty towards stock market
\nperformance. As economic policies change with a high frequency from year to
\nyear, a lot of macroeconomist and financial economies explore the role of
\nuncertainty in the real economy and various economic policies in investigating
\nand explaining the significant impact on return in the asset markets. This is
\nbecause economic policies uncertainty can affect the behaviour and perception
\nof market participants in the good and capital markets. According to Bernanke (1983,
\np.4) not a purposeful adjustment of stocks to a lower level, investor behaviour
\nduring recession is better described as a cautious probing, an avoidance of
\ncommitment until the longer run status of both the national economy and the
\ninvestor\u2019s own fortunes are better known. During the periods of high recession
\nor economic policy in uncertain, Bank may have low confidence and fear in the
\nmarkets, hence credit availability may become limited. In relation to limited
\ncredit availability in bank, a higher cost of finance can be a result of higher
\nrisk in the economy as perceived by banks and creditors. Likewise, when
\nuncertainty about future taxes, spending levels, regulations, health-care
\nreform and interest rates is high, consumers and firms have a tendency to
\npostpone spending on investment projects and consumption of goods and services
\n(Baker, Bloom, & Davis, 2012, p. 2). Thorough readings being made on a
\nJournal titled \u2018Policy Uncertainty and Private Investment in Developing
\nCountries\u2019 written by Dani Rodrik (1991). The author of the paper mentioned has
\ndeveloped the link to policy uncertainty to the private investment response. However,
\nRodrik (1991) shows that investment activities are negative correlated with
\nincreased policy uncertainty. Driver
\net al. (2004) research paper compares pooled and
\nnon-pooled models of UK capital investment using the Confederation of British Industry\u2019s
\n(CBI) Industrial Trends Survey, focusing on the impact of uncertainty. The
\nresults that those authors gain from panel data estimation capture that
\nuncertainty has negative impact on investment. \u201cThe uncertainty measure is
\nbased on the cross sectional dispersion of optimism about the future business
\nconditions in the industry in which the firm operates\u201d (Driver et al, 2004,
\np.1). Driver et al. have an opposite results compared to Rodrik (1991) paper.
\nHowever, \u201cAnother study by Rodrik (1991) shows that firms\u2019 delaying of
\ninvestment is associated with policy uncertainty (Julio and Yook, 2012, p. 46).
\nFurthermore, (Julio and Yook, 2012) also empirically document a negative
\nrelationship between political uncertainty and investment activities argued by Sum
\nV (2012, p. 3). Vichet Sum\u2019s (2012) research OLS\u2019s resulted in changes in
\neconomic policy uncertainty index predict negative stock returns. Bansal and
\nYaron (2004, p. 1) suggest that fluctuating
\neconomic uncertainty (conditional volatility of consumption) directly affects
\nprice\u2013dividend ratios, and a rise in economic uncertainty leads to a fall in
\nasset prices. To the extent that external finance\u2014both through the debt
\nand equity markets\u2014is subject to agency and\/or moral hazard problems, an
\nincrease in uncertainty will raise the user cost of capital, inducing a decline
\nin investment spending Gilchrist et al.(2010, p. 1). From the reading of various articles and journals, it is found that
\neconomic policy uncertainties do and do not impact the stock market performance
\nbased on different region, situations and perspective. <\/p>\n

\u2018Political Uncertainty and Risk Premia\u2019 written by Lubos Pastor and Pietro Veronesi. Pastor and Veronesi (2011) mentioned in their article that uncertainty could have a positive effect if the government responds properly to unanticipated shock and the authors also argue that political uncertainty could have a negative effect because it is not fully diversifiable. In the uncertainty of the economic and politic, there are three types of shock that drives the stock prices. They are being called as capital shocks, impact shocks and political shocks. In this paper the investigation would focus more on the stock prices that are driven by the political shocks. Pastor and Veronesi (2013) also said that during weaker economy, the government is more likely to adopt a new policy. Therefore, news about which new policy is likely to be adopted and hence political shocks have a larger impact on stock prices. Moreover, political uncertainty pushes up not only the equity risk premium but also the volatilities and correlations of stock returns (Lubos Pastor and Pietro Veronesi, 2013, p. 4). Apart from political changes, tax uncertainty does effect the asset pricing. \u201cTax uncertainty also features in Croce, Kung, Nguyen, and Schmid (2012), who explore its asset pricing implications in a production economy with recursive preferences. Croce, Nguyen, and Schmid (2012) examine the effects of fiscal uncertainty on long-term growth when agents facing model uncertainty care about the worst-case scenario.\u201d (\u013dubo\u0161 P\u00e1stor and Pietro Veronesi, 2013, p. 5). During the year 2016, United Kingdom has face a high economic policy and political uncertainties <\/a>due to the action of British decided to exit from the European Union (BREXIT). A lot of media and news reported the decline in stock price and stock market performance after the announcement of the departure of United Kingdom from the European Union. A literature review from The New York Times titled \u2018Trubulence and Uncertainty For The Market After BREXIT\u2019 written by Peter S. Goodman published on June 23, 2016 is being discussed in this paper. During the event when British exit from the European Union, it shocked the global markets. The consequences from the event are the pound plunged to its lowest level since 1985. Picture 1 in this paper shows that the economic policy uncertainty index reach the highest spike during the year 2016 caused by BREXIT. Furthermore, Peter S. Goodman (2016) also reported that investors fled risky assets and turned to the dollar and the yen. The investors to invest in a safer market such in United States and Japan and they also preferred to pull their money out of riskier concerns like stock markets. \u201cThe vote could be sign that major democracies are vulnerable to the influence of populist political movements.\u201d (Peter S. Goodman, 2016). Another online newspaper that is being used as reference to the research is the Sky News titled \u2018Will the Westminster terror attack have an impact on the economy?\u2019 written by Ian King (2017) who is a business presenter. The author reported that the attacks of 11 September 2001, no such incidents have had any measurable impact on the gross domestic products (GDP) of the economy in which they took place. When GDP have no impact due to the attack, the economic policy uncertainty might only increase by small amount of number or might not affected at all as the attack do not shock the economy. The authors said that the result could be the same whether that be the attacks on London in July 2005, on Madrid in March 2004 or Paris in November 2015 and January 2016. \u201cPerhaps one of the most comprehensive pieces of work done on the economic impact of individual attacks was carried out by the US Government in the aftermath of the 9\/11 atrocities\u201d (Ian King, 2017). Based on example from other country such as United States, it is found that New York City lost almost to the amount between $2.5 billion and $2.9 billion in foregone tax revenues as a result of the attacks while New York State lost $2.9 billion. The United States economy had already at a level that start to slow down before the attack, hence the reporter said that the lost is not fully caused by the attack. The study of Jonathan Brogaard and Andrew Detzel (2012) in an article titled \u2018The Asset Pricing Implications of Government Economic Policy Uncertainty\u2019 is to find out the relationship between the current levels of economic policy uncertainty and the future market return. \u201cThrough a variety of specifications in a simple OLS regression setting, we find a negative contemporaneous correlation between changes in economic policy uncertainty and market returns, and a positive relationship between current levels of economic policy uncertainty and future market returns.\u201d(Jonathan Brogaard and Andrew Detzel, 2012, p. 5). However, Jonathan Brogaard and Andrew Detzel (2012) also found that there is positive shocks to economic policy uncertainty coincide with a decline in prices, but higher future returns. The result from the research shows that economic policy uncertainties have consequences on real asset pricing. Moreover, the impact of economic policy uncertainty on market return or stock performance do not usually happened during the same year. The impact on stock market might take few years from the current year where economic policy is uncertain.<\/p>\n

According to Julio and Yook (2012) during the changes
\nin national leadership, if political uncertainty is higher, the elections
\nprovide a recurring event that helps isolate the impact of policy uncertainty
\non investment from other compounding factors. Elections may give bad outcome
\nfrom a firm\u2019s perspective, the firm may delay investment as they wait until the
\npolicy uncertainty is resolved. \u201cThe relationship between uncertainty and real
\ninvestment has been modeled by Bernanke (1983) and Bloom, Bond, and Van Reenen
\n(2007), among others\u201d (Julio and Yook, 2012, p. 2). In Bernanke et al., models
\nshow that firms become cautious and hold back on investment in the face of
\nuncertainty. There are more academic people that modelled the effects of
\npolitical uncertainty in macroeconomic context such as Rodrik (1991) paper
\nshows the uncertainty caused by political changes leads to firm to choose lower
\ninvestment levels. Julio and Yook (2012) empirical investigation provides that
\nthere is strong positive correlation between economic growth and the
\nprobability of holding an early elections. Firm\u2019s investment participation have
\npositive relation with economic growth hence there is the net effect on
\nreducing the effect of electoral uncertainty on investment due to the inclusion
\nof timed election. Adam Yonce (2009) empirically found that the decrease in
\ncorporate investment rates are associated with policy uncertainties which
\nassociated with the possibility of change in government.\u00a0 In investigating how the effect of political
\nuncertainty on investment could give impact on stock price, reading on Durnev
\n(2010) paper is being made. Durnev (2010) paper outcome show that uncertainty
\nhappened during elections can affect how corporate investment respond to stock.
\nAccording to Durnev (2010), during election years compared to non-election
\nyears, in elections around the world shows investment is 40% less sensitive to
\nstock prices. This is because the stock prices becoming less informative during
\nelections years as it distract the managers from tracking and follow the changes
\nin price. Furthermore, the author suggest that the drop in investment-to-price
\nsensitivity is larger when election results are less certain, in countries with
\nhigher corruption, large state ownership, and weak standards of disclosure by
\npoliticians and also suggest that election uncertainty leads to inefficient
\ncapital allocation, reducing company performance. As economic policy
\nuncertainty include the respond to news, political uncertainty could also give
\nimpact on stock market performance when the company performance is reduced.
\nMoreover, in the research paper of Belo et al. (2011), the authors suggest that
\nreturns are higher few years after the presidential term when political
\nuncertainty during the election and it is associated the government spending
\npolicy have been resolved. Apart from the uncertainties itself, there are other
\nfactor that could increase the sensitivity of firm stock and market stock. \u201cThe
\nfinding of large abnormal returns can also be interpreted as evidence of a
\nmissing risk factor; it may be that firms with higher exposure to government
\nspending are firms with higher sensitivity to a latent political risk factor\u201d
\n(Belo et al., 2011, p. 28). In the deep study of correlation of political
\nuncertainties such as during election and presidential season, Santa Clara and
\nRossen Valkon (2003) paper documented the excess returns correlate with
\npresidential-partisan cycles. According to the authors, the found that the
\npresidential cycle variables encapsulate the information about returns that is
\nnot correlated with business cycles variables. The finding could show that
\nbusiness performance and firm stock return might not be affected due to the
\nelection of new president which oppose the finding of Belo et al. (2011). Again
\nthere is a research paper that also discover that there is no relation of
\npolitical uncertainty or political cycle and firm\u2019s investment. Referring to
\nthe work of Adam Yonce (2009), after controlling for endogenous cash flows and
\npotential auto correlation in the error term, the author argue that the
\ninvestment for the sample of firms being investigated appears to have no
\nrelationship with political cycle, outside of effects associated with the
\nfiscal environment. <\/p>\n

Further reading have been made on political
\ninstability and the article titled is \u2018Does Political Instability in Developing
\nCountries Affect Foreign Investment Flow\u2019 written by Mario Levis. The decrease
\nof investment flow from the United States to Latin could be attributed to
\ndifferent accounting procedures and different investment strategies, but the
\ninvestors\u2019 fear of an epidemic political turmoil all over Latin America seemed
\nto be a major factor. Mario Levis wrote that Basi and Aharon conclude that
\npolitical risk is a major determinant in foreign investment decisions, Piper
\nseems to doubt it. \u201cBasi\u2019s second study, based on a mail survey of more than
\n300 international executives, found that a nation\u2019s level of political
\ninstability and the extent of its market potential are the two most important
\nfactors in foreign investment decisions\u201d. (Mario Levis, 1979). However, there
\nis a contrast opinion from the Green and Cunningham10. From a study based on 25
\nnations they indicate that political in- stability was found not to be
\nsignificantly related to foreign investment, while measures of market potential
\nare the most important determinants of the allocation of US foreign investment.\n<\/p>\n

To understand \u00a0and explain the study of impact on changes in
\neconomy policy on stock market performance and firm\u2019s investment, this paper
\ncollect data of economic policy uncertainty index and the volatility of stock
\nprice in United Kingdom and United States and use Microsoft Excel regression
\nand Eviews regression to see the relations. Santa Clara and Rossen Valkon
\n(2003) investigation found that there is no evidence of large excess return
\naround election dates and also volatility is to some extent higher in
\nRepublican presidencies. <\/p>\n

3.
\nMETHOD AND DATA<\/h2>\n

3.1
\nDATA<\/h3>\n

The
\ndata of Economic Policy Uncertainty Index of United Kingdom and United States are
\nbeing used in this research paper. The data of economic policy uncertainty index
\nof United Kingdom is obtain from Federal Reserve Economic Data (FRED) while the
\neconomic policy uncertainty index of United States have been collected from a
\nwebsite which is www.policyuncertainty.com<\/a>.
\nThis website provides monthly data of economic policy uncertainty index from
\nall around the world and the researchers are Scott R. Baker, Nick Bloom and
\nSteven J. Davis. In relation to find the impact of economic policy uncertainty
\non stock market performance and firm\u2019s investment, data on stock volatility of
\nboth countries, United Kingdom and United States, are obtain from Federal
\nReserve Economic Data (FRED). All of the data are being evaluate and analyse in
\nannually period. In addition, Microsoft Excel is being used to create a
\nregression on these data related to the finding of the effect of economic
\npolicy uncertainty on stock market performance. The investigation on relation
\nof economic policy uncertainty and firm\u2019s investment is being made by using
\nEviews software. There is no specific data and evaluation on the impact of
\npolitical changes on stock prices. However, the economic policy uncertainty
\nindex components include the news which consider it is from government.<\/p>\n

The
\nOLS regression (Equation 1) is being employed to analyse the data regarding the
\nstudy of the economic policy uncertainty and stock performance in United
\nKingdom and United States. While for the study of economic policy uncertainty
\nand firm investment, OLS regression (Equation 2) is being employed. <\/p>\n

3.2
\nMETHODOLOGY<\/h3>\n

Equation 1:<\/p>\n

\"\"<\/figure>\n

where:\n<\/p>\n

Rt
\n= return on the stock market index in month t<\/p>\n

\u2206EPUt= change in the index of economic policy uncertainty index in month t less month t-1<\/p>\n

Equation 2:<\/p>\n

Rt=
\n\u03b1 + \u03b2EPU + \u03b5t<\/p>\n

2.2
\nEconomic policy uncertainty and components<\/h3>\n

The
\ndevelopers of Economic Policy Uncertainty index are Baker, Bloom and Davis
\n(2012). Baker et al.\u2019s (2013) overall index of economic policy uncertainty is a
\nweighted average of four uncertainty components which are the new-based policy
\nuncertainty, Consumer Price Index forecast interquartile range, tax legislation
\nexpiration and federal expenditure forecast interquartile range (denoted by
\nnews uncertainty, CPI disagreement, taxation expiration, and expenditure
\ndispersion, respectively). The uncertainty of the news represent newspaper that
\nwrites about the economic policy uncertainty. It is constructed by month to
\nmonth searches of 10 large newspaper for articles containing words relating to
\nuncertainty, economic\/economy, monetary and fiscal policies and one or more of
\ncongress, deficit, Federal Reserve, legislation or White House. There are four
\nsteps taken by Baker et al. in overcoming the issue address in the approach to
\nmeasuring policy uncertainty. The first step is Baker et al. show a strong
\nrelationship between their measure of economic policy uncertainty and other
\nmeasure of economic uncertainty for example they implied stock market
\nvolatility. The next step is they compare the index to other measure of policy
\nuncertainty such as the frequency with which the Federal Reserve System\u2019s Beige
\nBooks mention policy uncertainty. Third they find similar movements in EPU
\nindices based on right-leaning and left-leaning newspaper and the last one is
\nthey conduct an extensive audit study randomly selected articles drawn from
\nmajor United States newspapers. <\/p>\n

4
\nEMPIRICAL RESULTS<\/h2>\n

4.1
\nEconomic policy uncertainty and stock return volatility in United Kingdom<\/h3>\n

Table 1<\/p>\n

\"\"<\/figure>\n

Summary
\noutput above is the regression from data related to the change in economic
\npolicy uncertainty index (t \u2013 t-1) and the stock return volatility in United
\nKingdom. The R Square represent the percent of the variance of the output
\nvariables in economic policy uncertainties index does explain by the variance
\nof the input variables, the stock return volatility. In this case the R Square
\nis shows that there is more than 2% relation between these two variables.<\/p>\n

Table 2<\/p>\n

\"\"<\/figure>\n

The p-value shows that 50% chance that the coefficient is obtain by chance. Apart from that the coefficient, as shown in table is positive coefficient and statistically significant. <\/p>\n

Rt=
\n\u03b1 + \u03b2EPU
\n+ \u03b5t<\/p>\n

The beta coefficient is the degree of change in the outcome
\nvariable for every 1-unit of change in the predictor variable. If the beta
\ncoefficient is positive, the interpretation is that for every 1-unit increase
\nin the predictor variable, the outcome variable will increase by the beta
\ncoefficient value.\u00a0 If the beta coefficient is negative, the
\ninterpretation is that for every 1-unit increase in the predictor variable, the
\noutcome variable will decrease by the beta coefficient value. So in this case,
\nfor every 1% change in the economic policy uncertainty index, it is expected
\nthat the stock return volatility to increase by 0.02%.<\/p>\n

4.2 Economic policy uncertainty and stock return volatility in United States<\/h3>\n

Table 3<\/p>\n

\"\"<\/figure>\n

Summary
\noutput above is the regression from data related to the change in economic
\npolicy uncertainty index (t \u2013 t-1) and the stock return volatility in United
\nStates. The R Square represent the percent of the variance of the output
\nvariables in economic policy uncertainties index does explain by the variance
\nof the input variables, the stock return volatility. In this case the R Square
\nis shows that there is 0.005% relation between these two variables.<\/p>\n

Table
\n4<\/p>\n

\"\"<\/figure>\n

The
\np-value shows that more than 78% chance that the coefficient is obtain by
\nchance. Apart from that the coefficient, as shown in table is negative
\ncoefficient and statistically significant. <\/p>\n

Rt=
\n\u03b1 + \u03b2EPU
\n+ \u03b5t<\/p>\n

The
\nBeta for this regression is negative In the case of relation between economic
\nuncertainty index and stock return volatility in United States, for every 1% change in the economic policy uncertainty index,
\nit is expected that the stock return volatility to decrease by -0.017.<\/p>\n

4.3 Effect of economic policy uncertainty on firm investment
\nin United States<\/h3>\n

Rt=
\n\u03b1 + \u03b2EPU + \u03b5t<\/p>\n

Table 5<\/p>\n

\"\"<\/figure>\n

Table 6<\/p>\n

\"\"<\/figure>\n

The
\nBeta for this regression is positive. Hence in this study, of relation between
\neconomic uncertainty index and firm investment in United Kingdom, for every 1% change in the economic policy uncertainty index,
\nit is expected that the stock return volatility to increase by 3.4813.<\/p>\n

4.4 Effect of economic policy uncertainty on firm investment
\nin United Kingdom <\/h3>\n

Table 7<\/p>\n

\"\"<\/figure>\n

Table 8<\/p>\n

\"\"<\/figure>\n

For
\nthe study of economic policy uncertainty index and firm investment in United
\nStates, the coefficient shows a positive values which indicate the Beta is
\npositive. For every 1% change in economic policy uncertainty in United States,
\nit expected that the stock return volatility to increase by 3.8201. <\/p>\n

Based on the results shown above, I can evaluate that for both countries, United Kingdom and United States, the stock return volatility will increase due to the uncertainty of economic policy. Based on the results from stock return volatility, this paper shows how economic policy uncertainty effects the stock market performance, firm\u2019s investment and stock price as stock return is one of the main indicator in determining the stock market performance, firms investment and stock price of a market. However, the result for the effect of economic policy uncertainty on stock performance in United States shows that it does not affected by the changes. This might be because some other factors such as the investment is being made after the uncertainty is being resolved or the during the turbulence of economy, there are other factor that could distract the investors and company\u2019s managers from taking action that could affect the stock performance and firm\u2019s investment. <\/p>\n

GRAPH
\nSUMMARY<\/h4>\n

Graph 1<\/p>\n

\"\"<\/figure>\n

Graph 2<\/p>\n

\"\"<\/figure>\n

Apart
\nfrom the regression results, the above graphs could show if stock is effected
\nby the economic policy uncertainty by comparing the movement of economic policy
\nuncertainty index and the movement of the volatility of stock price from year
\nto year. These two graph above are based in United Kingdom data and is taken
\nfrom Federal Reserve Economic Data (FRED). The changing pattern on both graphs
\nare highly correlated. In the year in between 2002 and 2004, 2010 and 2012 and
\nduring the year close to 2012, both graphs shows spikes at almost the same
\nyear. During the year 2004 to 2006, economic policy uncertainty is low and the
\nvolatility of stock price index during the period show a trough. The
\nhigher\/lower the economic policy uncertainty index, the higher\/lower the
\nvolatility of stock price and this could result to the higher\/lower the stock
\nmarket performance and firm\u2019s investment. <\/p>\n

Graph 3<\/p>\n

\"\"<\/figure>\n

Graph 4<\/p>\n

\"\"<\/figure>\n

Moving
\non to the graphs of economic policy uncertainty index and volatility of stock
\nprice index in United States. Same goes to these two graphs, the changes in
\nthese graphs are highly correlated. During the year in between 2002 and 2004
\nand between 2008 and 2010, the graphs show spikes while in the year between
\n2004 and 2008, both graphs constantly at a low level. These shows that the
\nincrease\/decrease in economic policy uncertainty in United States will also
\nincrease\/decrease the volatility of stock price in United States. The relation
\nof stock market performance and firm\u2019s investment with the economic policy
\nuncertainty can be shown through the volatility of stock price index.<\/p>\n

Graph 5<\/p>\n

\"\"<\/figure>\n

\u201cWe find that the number of large movements
\nin the S&P 500 index, defined as a daily change of 2.5% or more, has
\nincreased dramatically in recent years relative to the average since 1980.<\/p>\n

Moreover, since 2008, an increasingly large
\nshare of these large stock movements have been caused by policy-related events\u201d
\n(Bloom et. al, 2012).<\/p>\n

Graph
\n6<\/p>\n

\"\"<\/figure>\n

The
\ngraph shows that during the year 2008 and onward levels of economic policy
\nuncertainty are at the highest level compared to the previous years. <\/p>\n

Graph 7<\/p>\n

\"\"<\/figure>\n

Bloom
\net al. (2015) shows that there is relationship between their economic policy
\nuncertainty and real macroeconomic variables. The graph shows that an increase
\nin economic policy uncertainty foreshadows a decline in economic growth and
\nemployment in the following months.<\/p>\n

CONCLUSION<\/h2>\n

In conclusion, based on the articles, journals and
\nnews that I have read. Most of the research mention that there is impact on
\nfinancial crisis, asset prising, investors\u2019 decision and stock market from
\neconomic policy and political uncertainties. However, there are also academic
\nresearch paper that produce evidence that in certain situations, cases and
\nlimits, there will be no impact or less impact of stock when the economic
\npolicy is uncertain. Based on my empirical results on the research of the
\nrelation between economic policy uncertainty and stock market performance and
\nfirm\u2019s investment, it is found that there is the positive relation of economic
\npolicy uncertainty and the volatility of stock price in both countries which
\nare United Kingdom and United states. These results indicates that the increase
\nin economic policy uncertainty in both countries, the firm\u2019s investment level
\nis affected and being reduced. The output results on the study of the relation between
\neconomic policy uncertainty and stock market performance for United Kingdom and
\nUnited States are difference. The OLS regression for the investigation of
\nUnited Kingdom\u2019s data show a positive relation while for United States shows a
\nnegative relation. It demonstrate that stock market performance is better
\nduring a high economic policy uncertainty periods. This situation can be
\nexplained by the paper of Jonathan Brogaard and Andrew Detzel (2012) which
\nargue that they find a negative contemporaneous correlation between changes in
\neconomic policy uncertainty and market returns, and a positive relationship
\nbetween current levels of economic policy uncertainty and the future market
\nreturns through a variety of specifications in a simple OLS regression setting.
\nAside from that, the delay of investment could be one of the factors that cause
\nthe negative contemporaneous correlation between changes in economic policy
\nuncertainty and market returns. While some other academic researchers are also
\nfound that economic policy uncertainty in positively related to firm
\ninvestment. Vichet Sum\u2019s (2012) research OLS\u2019s resulted in changes in economic
\npolicy uncertainty index predict negative stock returns. <\/p>\n

REFERENCES<\/h2>\n