Are financial indicators capable of predicting economic activity?

The paper argues that the prices of financial instruments contain usefulinformation about the development of different macroeconomic variables. Itsfocus lies in examining the ability of stock prices and of spread betweenlong and shor interest rates to predict real economic activity. We firstoutline the theory behind this argument and present the findings ofavailable empirical literature on the topic. The main part of the paper isdevoted to empirical analysis of the relationship between the mentionedindicators and real economic activity in the Czech Republic using VARapproach. The results stemming from Granger causality tests and variancedecomposition suggest that the only indicator of the three we examined (twospreads, stock index) capable of predicting real economic activity is thespread between the yield on 5-year bond and one-month PRIBOR.

Keywords: financial indicators, real economic acitvity, term structure of interest rates, stock prices, forecasting, vector autoregression