Survey
* Your assessment is very important for improving the workof artificial intelligence, which forms the content of this project
* Your assessment is very important for improving the workof artificial intelligence, which forms the content of this project
Financial literacy wikipedia , lookup
Business valuation wikipedia , lookup
Private equity secondary market wikipedia , lookup
Investment fund wikipedia , lookup
Investment management wikipedia , lookup
Greeks (finance) wikipedia , lookup
Pensions crisis wikipedia , lookup
Stock trader wikipedia , lookup
Gross domestic product wikipedia , lookup
Public finance wikipedia , lookup
Global financial system wikipedia , lookup
Lattice model (finance) wikipedia , lookup
Introduction “Given the close link between the financial sector and household and firm balance sheets, a key question is how these differences in financial systems affect macroeconomic behaviour. ... Yet few empirical studies to date have analysed the effect of different financial structure on business cycle behaviour -attention has mostly focused on the role of overall financial development for growth performance.” World Economic Outlook, September 2006 Introduction (continued ) 1 • • • • large literature on the impact of finance and growth, but few empirical work on the relationship between finance and volatility, even fewer work on the effects of capital market theoretically, developed capital markets, not only better financial intermediation, help to smooth out economic fluctuations. existing studies provide only mixed support of the hypothesis that higher financial or capital market development leads to lower volatility Introduction (continued2) Theory • • • • Agency costs and balance sheet effect [Bernanke and Gertler (1995)] Information asymmetries [Greenwald and Stiglitz (1993)] Unequal access to investment opportunities [Aghion et al. (1999)] Limited diversification [Acemoglu and Zilibotti (1997)] Theory (continued ) 1 • • • Maturity mismatch in intermediaries’ portfolios, non-transferable specific knowledge, and lower transparency in a bank-based system. [Rajan and Zingales (2001)] Breaking up of relationship lending magnifies the initial shocks [Hann et al. (1999)]. Fire sales of a single troubled bank could cause asset-price deterioration that precipitates other banks into crisis [Fecht (2004)]. Empirical • • • Lopez and Spiegel (2002) analyse cross-section data and find that financial development does mitigate economic fluctuations. Loayza and Ranciere (2004) shows a positive longrun relationship between financial intermediation and output growth co-exists with negative short-run relationship. Tiryaki (2003) finds that investment volatility decreases as financial secotor expands, but volatility of output business cycles is largely irresponsive to financial development. Measurement Issues • Capital Market Development • Financial Development • Volatilities • Output • Growth Volatility • Business Cycle Volatility • Investment Volatility • Consumption Volatility Measures of Capital Market Development 1. Absolute measure • • identify the level of capital market development itself without reference to other development in the financial system Turnover ratio, Stock value traded ratio, Market capitalization ratio 2. Relative measure • • gauge the development of capital markets relative to that of financial intermediaries, particularly the banking sector also know in the literature as “Financial Structure”, indicating whether the financial system is market-based, or bank-based. Measures of Capital Market Development (continued ) 1 Absolute measures 1. “Turnover ratio” = the value of shares traded on domestic exchange divided by the total value of listed shares 2. “Value traded” = the value of trades of domestic shares on domestic exchange divided by GDP 3. “Market capitalization ratio” = the total stock market capitalization over GDP Measures of Capital Market Development (continued ) 2 Relative measures [Beck et al. (2001)] 1. Structure-Activity = log( 2. Structure-Size = log( stock _ value _ traded / gdp ) bank _ crdit / gdp stockmarket _ capitalization / gdp ) bank _ credit / gdp 3. Structure-Efficiency = log( stock _ value _ traded / gdp ) overhead _ cos t / banking _ system _ assets 4. Structure-Aggregate = First principal component of the above three indices, but in this paper only the first two due to data limitation Measures of Financial Development • Ideally, a measure of financial development would indicate the effectiveness which the financial system performs its functions: • clearing and settlement, pooling resources, transferring resources across time and space, managing risk, providing information, and dealing with incentive problems [Merton and Bodie (2004)] No such measures exist. Use proxies, which practically measure degrees of financial intermediation 1. Private credit ratio = ratio of domestic credit extended to the private sector by financial intermediaries to GDP 2. Liquidity ratio = ratio of liquid liabilities (usually M3) to GDP Measures of Volatility • Output volatility • Growth volatiliy = s.d. of growth rates of real gdp per capita • Volatility of business cycle component of output = s.d. of filtered real gdp per capita • • apply Chistiano-Fitzgerald (CF) band-pass filter • extract cyclical variations that last 2 to 8 years Investment volatility • Investment volatility = s.d. of gross capital formation growth • Consumption volatility • Consumption volatility = s.d. of household consumption growth Methodology A reduced-form equation relating volatility, financial intermediation, and capital market it 0 1.FDit 2 .FSit 3.X it it σ is a measure of volatility. Depending on the specification, it could be log of standard deviation (sd.) of growth rate of output (g-vol), investment (i-vol), or consumption (c-vol), or sd. of CF-filtered log of output (bvol). FD is a measure of financial development, namely log of private credit ratio (credit). FS is a measure of capital market development. An absolute and a relative measure would be log of turnover ratio (turnover) and financial structure-aggregate index (struc), respectively. X is a vector of standard controlled variables [see e.g. Lopez and Spiegel (2002), Beck et al. (2003)] Methodology (continued ) 1 • Controlled variables (X) include: • income level, trade openness ratio, government consumption over GDP, s.d. of changes in real effective exchange rate, s.d. of changes in terms of trade • Instrumental variables (Z) in IV and Panel IV: • IV: time trend, legal origin, creditor’s protection index [La-Porta et al. (1998)] • Panel IV: time trend, creditor’s protection, human capital index Data • • • The panel covers annual data of 44 countries from 1975 to 2004. Data sources are International Financial Statistics (IFS), World Development Indicators (WDI), Barro-Lee data set [Barro and Lee (2000)], Legal Origin and Creditor's Protection data set [La-Porta et al. (1998)], and Financial Structure data set [Levine (2002)]. The annual data are transformed into six five-year-span panel data from 1975-2004. The transformation method is the average, but for volatilities (such as growth volatility), standard deviation is used. 12 10 8 6 4 2 0 0 40 80 120 160 200 240 Domestic Credit to private sector (%of GDP) Standard Deviation of Growth rate of GDP per capita Standard Deviation of Growth rate of GDP per capita Scatter Diagrams 12 10 8 6 4 2 0 0 100 200 300 Stock Market Turnover ratio 400 Robustness check • Alternative measures of financial and capital market development are used. Liquidity ratio (M3/GDP) is used instead of private credit ratio (private credit/GDP) to measure a degree of financial development. Value traded ratio (stock value traded/GDP) and market capitalization ratio (stock market capitalization/GDP) are used instead of turnover ratio (stock value traded/stock market capitalization) as a measure of capital market development. Major findings do not materially change with alternative measures. • • Inclusion of the effects of institutional quality and financial liberalization policy also does not change the result. Other plausible relevant variables (e.g. standard deviation of inflation, average inflation rate, and investment ratio) are also included in the estimation, but have never been significant. Policy Implication • • • • The above econometric analysis supports theoretical prediction that the development of capital markets reduces output, investment, and consumption volatilities. Still the question whether the magnitude of the effects is economically meaningful. Use a coefficient of log of turnover ratio (turnover) from fixed effects estimation (FEI) of growth volatility as a benchmark. The coefficient is -0.16. The inter-quartile range of turnover ratio in the sample is 49.36. In terms of log difference, it is 1.67. Therefore, the effect of an inter-quartile improvement in turnover ratio is -0.27 (-0.16 * 1.67) or a reduction of 27% of volatility. The average growth volatility is 2.1%. A decrease of 27% would mean a decrease of 0.50 percentage point (2.1-2.1*exp(-0.27)) in standard deviation of growth rate. Conclusion • • • This paper investigates the effect of capital market development on output, investment and consumption volatilities in forty-four countries using data from 1975 to 2004 period. The main result is that output, investment and consumption volatilities are negatively related to measures of capital market development after controlling for other relevant variables. However, the absolute magnitude of the effect is quite small.