Hostname: page-component-78c5997874-s2hrs Total loading time: 0 Render date: 2024-11-15T10:45:09.207Z Has data issue: false hasContentIssue false
  • English
  • Français

Fiscal Policy, Consumption Risk, and Stock Returns: Evidence from U.S. States

Published online by Cambridge University Press:  14 February 2018

Zhi Da ,
Mitch Warachka  and
Hayong Yun
Get access Rights & Permissions [Opens in a new window]

Abstract

We find that consumption risk is lower in states that implement countercyclical fiscal policies. Moreover, firms with an investor base that is concentrated in countercyclical states have lower stock returns, along with firms that relocate their headquarters to a countercyclical state. Therefore, countercyclical fiscal policies lower the consumption risk of investors and, consequently, their required equity return premium. This conclusion is confirmed by smaller declines in market participation during recessions in countercyclical states. Overall, the location of a firm’s investor base enables state-level fiscal policy to influence stock returns.

Type
Research Article
Information
Journal of Financial and Quantitative Analysis , Volume 53 , Issue 1 , February 2018 , pp. 109 - 136
Copyright
Copyright © Michael G. Foster School of Business, University of Washington 2018 

Access options

Get access to the full version of this content by using one of the access options below. (Log in options will check for institutional or personal access. Content may require purchase if you do not have access.)

Footnotes

1

We thank Jennifer Conrad (the editor) and Mariano Croce (the referee) for helpful comments. We also thank Bo Becker, Frederico Belo, Effi Benmelech, Michael Brennan, Cristina Cella, Henrik Cronqvist, Phillip Dybvig, Antonio Fatas, Wayne Ferson, Francisco Gomes, Klaus Grobys, Harrison Hong, Eric Hughson, Christian Julliard, Andrew Karolyi, Roger Loh, Dong Lou, Joel Peress, Jeff Pontiff, Lucio Sarno, Ivan Shaliastovich, Richard Smith, Jiang Wang, Tracy Wang, Scott Weisbenner, Shu Yan, and Fan Yu for their comments as well as participants at the 2013 Sun Trust Beach Conference, the 2013 Financial Intermediation Research Society (FIRS) conference, the 2013 Rothschild Caesarea Center Conference, the 2013 China International Conference in Finance, the 2013 Auckland Finance Meeting, the 2012 European Finance Association Meeting, the 2011 Financial Research Association Meeting, and the 2011 Center for Economic Policy Research (CEPR) Summer Symposium in Gerzensee. We thank George Korniotis for providing us with state-level retail sales data and Diego Garcia for providing us with data on the state-level operations of firms. We also thank Hojong Shin for his excellent research assistance. Some of the data used in our analysis are derived from the Restricted Data Files of the Panel Study of Income Dynamics, obtained under special contractual arrangements designed to protect the anonymity of respondents. These data are not available from the authors.

References

Acemoglu, D.; Johnson, S.; Robinson, J.; and Thaicharoen, Y.. “Institutional Causes, Macroeconomic Symptoms: Volatility, Crises and Growth.” Journal of Monetary Economics, 50 (2003), 49–123.Google Scholar
Belo, F.; Gala, V.; and Li, J.. “Government Spending, Political Cycles, and the Cross Section of Stock Returns.” Journal of Financial Economics, 107 (2013), 305–324.CrossRefGoogle Scholar
Belo, F., and Yu, J.. “Government Investment and the Stock Market.” Journal of Monetary Economics, 60 (2013), 325–339.Google Scholar
Brav, A.; Constantinides, G.; and Geczy, C.. “Asset Pricing with Heterogeneous Consumers and Limited Participation: Empirical Evidence.” Journal of Political Economy, 110 (2002), 793–824.Google Scholar
Brogaard, J., and Detzel, A.. “The Asset-Pricing Implications of Government Economic Policy Uncertainty.” Management Science, 61 (2015), 3–18.Google Scholar
Coval, J., and Moskowitz, T.. “Home Bias at Home: Local Equity Preference in Domestic Portfolios.” Journal of Finance, 54 (1999), 2045–2073.CrossRefGoogle Scholar
Croce, M.; Kung, H.; Nguyen, T.; and Schmid, L.. “Fiscal Policies and Asset Prices.” Review of Financial Studies, 25 (2012), 2635–2672.CrossRefGoogle Scholar
Croce, M.; Nguyen, T.; and Schmid, L.. “The Market Price of Fiscal Uncertainty.” Journal of Monetary Economics, 59 (2012), 401–416.CrossRefGoogle Scholar
Daniel, K.; Grinblatt, M.; Titman, S.; and Wermers, R.. “Measuring Mutual Fund Performance with Characteristic-Based Benchmarks.” Journal of Finance, 52 (1997), 1035–1058.Google Scholar
Durnev, A.“The Real Effects of Political Uncertainty: Elections and Investment Sensitivity to Stock Prices.” Working Paper, University of Iowa (2010).CrossRefGoogle Scholar
Fama, E., and MacBeth, J. D.. “Risk, Return, and Equilibrium: Empirical Tests.” Journal of Political Economy, 81 (1973), 607–636.CrossRefGoogle Scholar
Garcia, D., and Norli, O.. “Geographic Dispersion and Stock Returns.” Journal of Financial Economics, 106 (2012), 547–565.Google Scholar
Gordon, D., and Leeper, E.. “Are Countercyclical Fiscal Policies Counterproductive?” Working Paper, National Bureau of Economic Research (2005).CrossRefGoogle Scholar
Heaton, J., and Lucas, D.. “The Effects of Incomplete Insurance and Trading Costs in a Consumption-Based Asset Pricing Model.” Journal of Economic Dynamics and Control, 16 (1992), 601–620.CrossRefGoogle Scholar
Heaton, J., and Lucas, D.. “Evaluating the Effects of Incomplete Insurance on Risk Sharing and Asset Pricing.” Journal of Political Economy, 104 (1996), 443–487.Google Scholar
Hong, H.; Kubik, J.; and Stein, J.. “Thy Neighbor’s Portfolio: Word-of-Mouth Effects in the Holdings and Trades of Money Managers.” Journal of Finance, 60 (2005), 2801–2824.CrossRefGoogle Scholar
Hubbard, G.; Skinner, J.; and Zeldes, S.. “Expanding the Life-Cycle Model: Precautionary Saving and Public Policy.” American Economic Review, 84 (1994), 174–179.Google Scholar
Huberman, G.“Familiarity Breeds Investment.” Review of Financial Studies, 14 (2001), 659–680.Google Scholar
Ivković, Z., and Weisbenner, S.. “Local Does as Local Is: Information Content of the Geography of Individual Investors’ Common Stock Investments.” Journal of Finance, 60 (2005), 267–306.Google Scholar
Ivković, Z., and Weisbenner, S.. “Information Diffusion Effects in Individual Investors’ Common Stock Purchases: Covet Thy Neighbors’ Investment Choices.” Review of Financial Studies, 20 (2007), 1327–1357.CrossRefGoogle Scholar
Johnson, D.; Parker, J.; and Souleles, N.. “Household Expenditure and the Income Tax Rebate of 2001.” American Economic Review, 96 (2006), 1589–1610.Google Scholar
Julio, B., and Yook, Y.. “Political Uncertainty and Corporate Investment Cycles.” Journal of Finance, 67 (2012), 45–83.CrossRefGoogle Scholar
Kelly, B.; Pastor, L.; and Veronesi, P.. “The Price of Political Uncertainty: Theory and Evidence from the Option Market.” Journal of Finance, 71 (2016), 2417–2480.CrossRefGoogle Scholar
Knight, B., and Levinson, A.. “Rainy Day Funds and State Government Savings.” National Tax Journal, 52 (1999), 459–472.Google Scholar
Korniotis, G.“Habit Formation, Incomplete Markets, and the Significance of Regional Risk for Expected Returns.” Review of Financial Studies, 21 (2008), 2139–2172.Google Scholar
Korniotis, G., and Kumar, A.. “State-Level Business Cycles and Local Return Predictability.” Journal of Finance, 68 (2013), 1037–1096.Google Scholar
Kumar, A.; Page, J.; and Spalt, O.. “Investor Sentiment and Return Comovements: Evidence from Stock Splits and Headquarters Changes.” Review of Finance, 17 (2012), 921–953.Google Scholar
Lucas, D.“Asset Pricing with Undiversifiable Income Risk and Short Sales Constraints: Deepening the Equity Premium Puzzle.” Journal of Monetary Economics, 34 (1994), 325–341.Google Scholar
Ostergaard, C.; Sorensen, B.; and Yosha, O.. “Consumption and Aggregate Constraints: Evidence from U.S. States and Canadian Provinces.” Journal of Political Economy, 110 (2002), 634–645.Google Scholar
Parker, J.; Souleles, N.; Johnson, D.; and McClelland, R.. “Consumer Spending and the Economic Stimulus Payments of 2008.” American Economic Review, 103 (2013), 2530–2553.CrossRefGoogle Scholar
Pastor, L., and Veronesi, P.. “Uncertainty about Government Policy and Stock Prices.” Journal of Finance, 64 (2012), 1219–1264.Google Scholar
Pastor, L., and Veronesi, P.. “Political Uncertainty and Risk Premia.” Journal of Financial Economics, 110 (2013), 520–545.Google Scholar
Pirinsky, C., and Wang, Q.. “Does Corporate Headquarters Location Matter for Stock Returns?” Journal of Finance, 61 (2006), 1991–2005.CrossRefGoogle Scholar
Poterba, J.“State Responses to Fiscal Crises: The Effects of Budgetary Institutions.” Journal of Political Economy, 102 (1994), 799–821.Google Scholar
Romer, P.“Endogenous Technological Change.” Journal of Political Economy, 98 (1990), 71–102.CrossRefGoogle Scholar
Santa-Clara, P., and Valkanov, R.. “The Presidential Puzzle: Political Cycles and the Stock Market.” Journal of Finance, 58 (2003), 1841–1872.CrossRefGoogle Scholar
Storesletten, K.; Telmer, C.; and Yaron, A.. “Cyclical Dynamics in Idiosyncratic Labor Market Risk.” Journal of Political Economy, 112 (2004), 695–717.Google Scholar
Svec, J., and Kondo, A.. “Fiscal Policy Cyclicality and Growth within the US States.” B.E. Journal of Macroeconomics, 12 (2012), Article 2, 1–33.Google Scholar
Tuzel, S., and Zhang, M.. “Local Risk, Local Factors, and Asset Prices.” Journal of Finance, 72 (2017), 325–370.Google Scholar
Wagner, G., and Elder, E.. “The Role of Budget Stabilization Funds in Smoothing Government Expenditures over the Business Cycle.” Public Finance Review, 33 (2005), 439–465.CrossRefGoogle Scholar
Zeldes, S.“Consumption and Liquidity Constraints: An Empirical Investigation.” Journal of Political Economy, 97 (1989), 305–346.Google Scholar