Stock Returns, Inflation, and Real Activity in Canada

Abstract

This paper finds evidence that, as for the United States , there exists an inverse relation between real stock returns and inflation i n Canada. Such a relation, if nonspurious, could signify a nonneutralit y of money. The authors' causality tests suggest, however, that inflation does not cause real stock returns. Instead, their empirical results support E. F. Fama's "proxy effect" hypothesis, according to which the observed inverse relation is proxying for fundamental relations between real stock returns and anticipated real activity, and between inflation and real activity. The authors therefore cannot reject the Fisherian hypothesis that variations in anticipated inflation have no effect on real stock returns.