International trade policy uncertainty spillover on stock market: Evidence from fragile five economies

Abstract

Trade policy uncertainty (TPU) and its impact on the global economy have captured much attention of the policymakers in the last decade. This paper contributes to building an emerging literature strand by investigating TPU spillovers of United States, China, and Japan on stock returns and volatilities of fragile economies, namely, Colombia, Indonesia, Mexico South Africa, and Turkey. This study confirms the existence of spillover effects employing Diebold and Yilmaz’s (2012) methodology. The results show that USA and China are net shock transmitter of TPU, while Japan is a net receiver. Chinese TPU has the largest influence among the three countries followed by USA and Japan. This study also employs vector autoregression (VAR)-DCC-GARCH and VAR-ADCC-GARCH to capture the spillover effects on stock returns and volatility. We find that TPU of USA, China, and Japan transmits shocks that drive stock market returns of fragile economies. However, the sign of the spillover effects is country specific and depends on a country’s TPU. Similar evidence was found for volatility spillover. In few cases, TPU of USA, China, and Japan stabilizes the stock market returns volatility. Hence, TPU has heterogeneous effects on stock market in Colombia, Indonesia, Mexico South Africa, and Turkey.

KEYWORDS:

• Trade policy uncertainty
• fragile economies
• returns
• volatilities
• spillover

JEL Classifications:

• G14
• G15
• Q41
• C51

Data availability statement

The data pertaining to trade policy uncertainty were extracted from the Policy Uncertainty website. The MSCI index of stock market of fragile economies was accessed from the ‘investing.com’ website. Moreover, the data will be available upon request.

Disclosure statement

No potential conflict of interest was reported by the author(s).

Notes

1 In December 2016, Morgan Stanley named Colombia, Indonesia, Mexico, South Africa, and Turkey as fragile economies based on six factors. The factors were current account balance, FX reserves to external debt ratio, foreign holdings of government bonds, US dollar debt, inflation, and real rate differential. These are countries’ trade position with USA, China, and Japan are different in terms of size and volume. The fragile five countries have relatively weak macroeconomic and financial structures as evidenced by the crises they experienced over the last three decades (Begüm, Huyugüzel, and Nazif 2021; Hoque and Zaidi 2020; Yildirim 2016).

2 US trade policy uncertainty reflects the frequency of articles in American newspapers that discuss policy-related economic uncertainty and also contain one or more references to trade policy.

3 Uncertainty Index for China from 2000 onwards was quantified using the Renmin Daily and the Guangming Daily newspapers. Japan trade policy uncertainty reflects the frequency of articles in Japanese newspapers that discuss policy-related economic uncertainty and also contain one or more references to trade policy. They have followed the process of Baker, Bloom and Davis (Quarterly Journal of Economics, November 2016) for constructing index of trade policy uncertainty. In the search, the following keywords are included: import tariffs/import duty/import barrier/WTO/world trade/world trade organization/trade policy/trade act/Doha round/Uruguay round/GATT/General agreement on Tariffs and Trade/Dumping/protectionism/trade barrier/export subsidies.