Relationship among Economic Growth, Inflation and Stock Market Return in the UK - Dissertation Example

Major determinants include interest rates, inflation, and the country’s GDP. According to Franc and Young: “A positive relationship between stock prices and exchange rates with the direction of causation running from exchange rates to stock prices can be explained as follows: a domestic currency depreciation makes local firms more competitive, leading to an increase in their exports” (Franck and Young, 1972).

The macroeconomic environment is in a constant state of change. Inflation and economic growth are the two key elements that influence contemporary macroeconomic performance. Variables that served as tremendous indicators or assessment tools yesterday can mean nothing today. So many factors die and are born, economists must first commit to keeping up with changes of the times. The market capitalization provides a current outlook of where the agency is financially in the market. “Market capitalization is calculated by multiplying a company's shares outstanding by the current market price of one share.

The investment community uses this figure to determine a company's size, as opposed to sales or total asset figures” (Value Click, 2013). Macroeconomic potential outputs cannot consider unforeseen determinants including the environment or supply and demand. However, the variables serve as an outline at best, comparing the actual from the potential. Multiple regression uses independent variables to calculate values for one variable. The interpretations of the data serve four major purposes (Thomas, 2006): recognize the components of a changing landscape, expose the needs imposed by the change, and empower to adapt to the changes in the market.

A regression analysis of market rates with determinants as the variables measures the impact of the determinants on the UK exchange rates over time. Stock market return rates over time are a reflection of the mentality of the government, investors and the commonwealth of a country. Any indicators, variables, or determinants of exchange rate movements can be linked to at least one, if not all three of these groups. Exchange rate volatility is expensive because fluctuations suggest instability. It suggests impending inflation or a rise in interest rates.

Whether either of the events will actually happen does not matter. Just thinking they will is sufficient to stop investors from investing and consumers to stop spending. Inflation, interest rates and the financial health of a country are the output of the thinking processes of its people. These three determinants, with a focus on the stock market of the United Kingdom (UK), will be the focus of this study. Price stability also has a prominent effect on economic growth, thus influencing exchange rates.

Economists generally accept that there is a positive relationship between the stock market and economic growth. Therefore, the discussion on the relationship of the stock market return, economic growth and inflation are of high significance both for practice and development. Many economists have used basic economic theories and conducted an empirical studies on their relationships.