Models recently studied by Farmer (2012, 2013, 2015) predict that, due to labor-market frictions and 'animal spirits', stock-market fluctuations should Granger cause fluctuations of the unemployment rate. We performed several Granger-causality tests on more than half a century of German data to test this hypothesis. Our findings show that the stock market Granger causes unemployment in the short run and the long run when we control for a deterministic trend in the unemployment rate. Results of a frequency-domain test show that, in the short run, feedback cannot be rejected, whereas the causality clearly runs from the stock market to the unemployment rate in the medium to long run.
Models recently studied by Farmer (2012, 2013, 2015) predict that, due to labor-market frictions and 'animal spirits', stock-market fluctuations should Granger cause fluctuations of the unemployment rate. We performed several Granger-causality tests on more than half a century of German data to test this hypothesis. Our findings show that the stock market Granger causes unemployment in the short run and the long run when we control for a deterministic trend in the unemployment rate. Results of a frequency-domain test show that, in the short run, feedback cannot be rejected, whereas the causality clearly runs from the stock market to the unemployment rate in the medium to long run.