Monetary policy and financial markets: regime switches in US short-term interest rates and stock prices. A Markov-switching VAR approach

This thesis presents a structural framework which accounts for two well-established empirical relationships. The first is a short term interest rate equation that relates the same variables of a Taylor rule and that is derived as a dynamic equilibrium condition from an intertemporal Euler equation within a cash-in-advance economy. The second is a stock market equilibrium equation that resembles the so-called "Fed model" and that is derived as a no-arbitrage condition. The aim of this thesis is to analyse regime shifts in the stochastic processes generating the short term interest rate and the stock price modelling regime shifts into the cointegrated VAR, so by estimating a Markov-switching vector error correction model with monthly data (1960-2012) for the US. A second point concerns the linkages between monetary policy and the stock market. This issue is analyzed by investigating endogenous regime shifts in a cointegrated VAR that models jointly the monetary equilibrium condition and the assets market equilibrium, exploring co-breaking between the two relationships.