Analysis of the long‐term relationship between macro‐economic variables and the Chinese stock market using heteroscedastic cointegration

The purpose of this paper is to investigate the relationship between the Chinese stock market indices and a set of macro‐economic variables, i.e. money supply, industrial production, inflation, exchange rate and interest rates.

The aims of this paper are addressed using heteroscedastic cointegration analysis.

Results show that the cointegrating relationship does exist between stock prices and the macro‐economic variables in the highly speculative Chinese stock market. Detailed analysis shows stock market performance is positively related to that of macro‐economy in the long term.

The results imply that in the long run, investors can benefit in terms of better returns and portfolio diversification as the Chinese economy is expected to continue to perform strongly.

The main contributions of this paper are two‐fold: first, this is the first paper to examine the long‐term relationship between the stock market indices and macro‐economic variables in China, one of largest economies in the world. Second, heteroscedastic cointegration analysis is used and hence this paper controls for time‐varying volatility.