The Effectiveness of Stock Prices on the Phase of Short-term Interest Rates: Evidence from Eastern European Countries

In recent years the issue of the role of asset prices in monetary setting has become increasingly topical since booms and busts in asset market are associated with the fluctuations in overall economic activity through its impacts on aggregate spending. In this study, we use Smooth Transition Regression (STR) models to explore whether stock prices may have a major role on the phase of the short-term interest rates in Eastern European countries implementing inflation targeting regime, namely Czech Republic, Poland, Russian Federation and Turkey. Empirical results point out that stock prices have an impact on short term interest rates in Czech Republic, Poland, Russian Federation and Turkey but the effect is statistically significant only for the case of Turkey. The result implies that Central Bank of the Republic of Turkey (CBRT) may respond to the changes in stock prices as long as the response does not generate any disturbance in the other areas of the overall economic activity.