Political Shocks and Market Volatility

This study examines the impact of political shocks on global financial markets in short-term, specifically data relating to Brent crude oil price and VIX volatility index. Using weekly panel data from major regions around the world and estimating both baseline regressions as well as local projection impulse response functions, we show that markets operate with significant disruptions due to political turbulence. Politically induced downturns are associated worldwide with declines in oil returns and increases in market volatility. But the scope of response transmission differs widely across regions: strong spillovers characterise Europe, East Asia and the Middle East while Sub-Saharan Africa and South Asia show weak responses. These differences emphasize the importance of financial integration and institutional quality also adds to how markets respond; whereas, geopolitical vulnerability highlights how structural constraints in these nations dictate their ability to effectuate change. The results hold consistently significant across a range of alternative model specifications and have important implications for policy makers, investors, risk managers that would want to identify and minimize the financial consequences of political uncertainty.