Did investors expect an institutional breakdown? Stock and bond markets and political violence at the onset of the Spanish Civil War

Abstract

Did Spanish investors expect a traumatic breakdown of the existing economic and institutional order in the run up to the outbreak of the Civil War? The paper explores this issue by looking at financial markets in the years that preceded the dramatic events of July 1936. Our purpose is empirically to assess the notion, advanced both by
contemporary commentators and by historical narratives, that political developments were the main determinants of investors’ sentiment in the 1930s. We test for structural shifts in the mean and variance of stock and bond markets in coincidence with main political events, and assess their short-run impact by using an event study approach. We also test the impact of political vs. macroeconomic “events” on markets’ behaviour. Comments from stock market chronicles are used in order to investigate the public’s perception of the identified events. Our preliminary findings suggest that, unlike the crisis of 1931, in which macroeconomic and political shocks fed back mutually, from 1933 onwards political shocks dominated. Investors’ sentiment was
optimistic from the end of 1933 but turned pessimistic already in November 1935, in coincidence with the crisis of the ruling right-wing coalition. Expectations collapsed after the victory of the Popular Front coalition in February 1936, which markets did not anticipate.