EFN426 International Stock Market Integration - Kasa Case Study - Finance Assessment Answer

Assessment Task:

EFN426 International Stock Market Integration Finance Assessment Answer

Task Description

Do a visual inspection of the proposed linkage between the two markets.

Just like Kasa (1992) would have done, start by looking at the stationarity properties of the two time series of interest individually. Report how you do this and what you find.

Then proceed to investigating any possible long run cointegrating relationships between them (recall how cointegration is defined, and hence when is it applicable). Report on your methods and findings.

Could a vector autoregression (VAR) specification be used to examine the short run relationship between the market dynamics? (Recall how a VAR is constructed; pay attention to the requirements on the variables used.) Can any predictive relationship be found? Report on your methods and findings.

An error correction model (ECM) can reveal whether the “balancing act” between two nonstationary series works towards a long-run equilibrium state. Investigate the short-run adjustment process here using ECM approach, one equation at a time (not VECM).

Before you start

A fundamental aspect of the above analysis (that you may already have thought of) is how you quantify the two markets. The data set has consumer price indices as well as exchange rates provided. There are a few ways to adjust the market indices for comparability: real-time inflation, the expectation of inflation, or general market conditions or dynamics. Taking these into account may change the results in some way, or they may not have any impact. Complete the task using inflation-adjusted real prices (CPI-adjusted prices).

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