From Wall Street to Shanghai: Federal Reserve Tightening, Investor Sentiment, and Transmission Channels in China’s Stock Market

This study uses data from July 2008 to July 2023 to examine the role of investor sentiment in the relationship between the Federal Reserve’s tightening monetary policy and the Chinese stock market. This study employs a time-varying parameter vector autoregression model to examine the strength and direction of spillover effects of the Federal Reserve’s monetary policy on the Chinese stock market through various channels. Further, it examines the role of investor sentiment and the dynamic relationships among these factors. The findings demonstrate that the impact of the Federal Reserve’s interest rate hikes on the Chinese stock market has gradually diminished. For exchange rates and the spread, the Shanghai Stock Exchange Composite Index exhibits a negative short-term response but a positive medium- to long-term response. The Shanghai Stock Exchange Composite Index demonstrates a positive response to exports. Besides, under external monetary policy tightening cycles, Chinese investor sentiment mitigates spillover effects. When investor sentiment is high, it buffers the Federal Reserve’s tightening shocks, thereby producing a positive regulatory effect.