Essays in Finance and Monetary Policy: Evidence from Visegrad Countries

This dissertation consists of three empirical papers on the issues of monetary policy as well as finance in the group of four Visegrad countries, namely the Czech Republic, Hungary, Poland, and Slovakia. The first paper, entitled “Testing Multi-Factor Asset Pricing Models in the Visegrad Countries”, attempts to point to a suitable asset-pricing model that could be used to estimate the cost of equity capital in the Visegrad countries. The Capital Asset Pricing Model (CAPM) that is most often used for this purpose in developed markets has a poor empirical record and is likely not to hold in less developed and less liquid emerging markets. Various factor models have been proposed to overcome the shortcomings of the CAPM. This paper examines both the CAPM and the macroeconomic factor models in terms of their ability to explain the average stock returns using the data from the Visegrad countries. We find, as expected, that the CAPM is not able to do this task. However, factor models, including factors such as: excess market return, industrial production, inflation, money, exchange rate, exports, commodity index, and term structure, can in fact explain part of the variance in the Visegrad countries’ stock returns. A second paper, “Size and Value Effects in Visegrad Countries”, is an extension of the previous paper. This paper has two main objectives. The first is to test for the presence of the size and book-to-market value effects in Visegrad countries, while the second is to propose a plausible model for the cost of capital estimation in the Visegrad region. Size and book-to-market effects have been found in the United States and many other developed stock markets. We demonstrate that these effects do in fact explain the expected return/cost of capital in Eastern Europe. Based on this result, we proceed by constructing regional size and book-to-market portfolios for a combined Visegrad market. Returns on these portfolios serve as factors in addition to the market portfolio. The regional three-factor model performs as well as country specific versions of the model. However, it can be estimated for a more current sample in Prague, Warsaw, Budapest, and Bratislava. Therefore it is a plausible model for the cost of capital in this region and we use it to calculate the cost of capital for the following industries: banks; capital goods; food, beverage and tobacco; materials; and utilities. The final third paper (a joint work with R. Horvath), “The Effects of Monetary Policy in the Czech Republic: An Empirical Study”, examines the effects of Czech monetary policy on the economy within the VAR, structural VAR, and factor-augmented VAR frameworks. We document a well-functioning transmission mechanism similar to the euro area countries, especially in terms of the persistence of monetary policy shocks. Subject to various sensitivity tests, we find that a contractionary monetary policy shock has a negative effect on the degree of economic activity and the price level, both with a peak response after one year or so. Regarding prices at the sectoral level, tradables adjust faster than non-tradables, which is in line with microeconomic evidence on price stickiness. There is no price puzzle, as our data come from a single monetary policy regime. There is a rationale in using the real-time output gap instead of current GDP growth, as using the former results in much more precise estimates.