A Economic Policy Uncertainty and Stock Market Returns: Evidence from Pakistan

Abstract

On financial front, the stock markets are more vulnerable to uncertainties, and economic policy uncertainty (EPU) is one of them. Pakistan is a small open economy, and literature established that it has significantly been influenced by internal/external shocks, including the Asian Financial Crisis, subprime mortgage crisis, earthquake, floods, COVID-19, and others. The Pakistani stock market response to EPU over time remains an unanswered question till now. To address this research gap, the current study empirically investigates how EPU affects the Pakistan stock market. Subject to availability, it utilizes monthly secondary data from August 2010 to December 2023 to estimate the ARDL (autoregressive distributed lag) method. Findings of this research demonstrate that, both in the short and long terms, the EPU has a considerable negative impact on the indexes of the Pakistani stock market. It suggests that an increased risk due to EPU erodes investor confidence and results in lower market valuations. The findings may help investors make informed decisions by simply looking at the moments of these uncertainty factors. Likewise, policymakers can use information on global uncertainty factors to manage volatility in the equity market. The research findings indicate that EPU can serve as a useful tool for policymakers, regulatory agencies, governmental organizations, and financial institutions to enhance market trust, promote stability, and growth in the Pakistani economy.