Question

What impact will be on interest rate if Stock market is becoming very volatile? The Fed drastically increases money supply? Is there potentially a different effect short term vs longer term? How?

Answer 1

Introduction -

Fed makes adjustment with the rates in order to control the inflation rates- By increasing it they try to control the money supply in the market and thus it makes money more expensive in the market and vice versa i.e when they decrease it they try to increase the money supply in the market so that the money is available.

Explaining the relationship between Interest Rate and Stock Market.

The stock market is not really a fan of high-interest rates, as high rates increase the cost thus increasing in cost leads to lower profit from the share market.

But as mentioned in the question about the impact on the interest rate if the stock market is volatile is that when there is more volatility is that means the economy is not in very stable stage or there has been some uncertain situation for which the market has reacted a lot and thus the volatile movement.

Under such situation, the fed tends to decrease the interest rates and thus increase the money supply in the market by making the money a little cheaper and easily available to increase the flow.

Short term and Long term effect of decrease in interest rate

Rise or fall interest rate can only affect the sentiments of the market for short term i.e when the interest rate falls and thus the investor gets a perception that the money supply will increase in the market thus thend to buy more and the stock prices goes up , but generally there is 12 months lag in the economy to see the effect of increase or decrease in the interest rates to be felt thus when the money supply increases the inflation rises that thus will later have adverse effect on the market.