The Impact of Exchange Rate Volatility on the Stock Market in Malaysia

The study on the relationship between stock market and exchange rate have become more important since the occurance of the Asia financial crisis in 1997 and the global economic crisis in 2008 which bring to the slowdown in the stock market as well as the foreign currency in most of the countries in the world. This study tries to investigate the relationship between those two markets focusing on the impact of exchange rate volatility on the stock market in Malaysia. This paper uses the Johansen cointegration test approach with structural break, vector error correction model, variance decomposion and impulse response function on the data set spanning from January 1991 to August 2011. The results show that there exist cointegrating relationship between stock market and exchange rate volatility. Further analysis shows that both exchange rate and exchange rate volatilitry Granger cause stock market. This empirical results show that exchange rate and exchange rate volatility have an impact on stock market in Malaysia. This study also give empirical evidence on the existance of volatility spillover effect from the exchange rate market to the stock market and implies that the two markets are integrated. However, the effect is time dependent and thus the relationship between these markets are influenced by the financial crisis.