Determinants of stock market development: evidence from advanced and emerging markets in a long span/Akciju rinkos vystymosi veiksniai: issivysciusiu ir besivystanciu rinku elgsenos pavyzdziu tyrimas ilguoju laikotarpiu.
Evrim-Mandaci, Pinar ; Aktan, Bora ; Kurt-Gumus, Guluzar 等
Introduction
Financial development has received great attention from
researchers, both in terms of its effects and the factors affecting it.
Literature confirms the presence of strong relations between financial
development, specifically stock market development, and economic growth
(Rousseau, Wachtel 2001; Billmeier, Massa 2009; Gudonyte, Tvaronaviciene
2012). Recent studies have explored the factors influencing stock market
development through different perspectives and a number of other
variables. Yet, still there are some factors the effects of which have
not been properly explored.
One of the above introduced factors--capital lows consists of two
basic types: foreign direct investment (FDI) and remittances. For
instance, in 2001, remittances were the second-largest source of
external funding behind FDI, especially for developing countries; they
showed similar and, in some cases, even better performance than did
private capital flows in the context of growth. Notwithstanding, the
factors stimulating foreign investment have been frequently elaborated
(Tvaronaviciene, Lankauskiene 2011; Tvaronavicius, Tvaronaviciene 2012;
Tvaronaviciene, Grybaite 2012), and the effects of FDI, especially on
financial markets, have been largely neglected. Moreover, researchers
have not leaned on the empirical relationship of FDI and remittances
with stock market development. This study focuses on covering the gap
analysing the effects of FDI and remittance in stock market development.
Moreover, in line with the previous studies and considering the fact
that some of these remittances are invested into the bank accounts of
domestic countries and given as credits to private sector, we also
incorporate bank credits into our set of variables to observe the
overall effect of capital inflows into the financial system of the given
countries.
This study is expected to contribute towards literature in terms of
the longevity of the period it takes into account and the number of
countries it intends to analyze, e.g. covers a 48-year period spanning
from 1960 to 2007 and contains thirty advanced and emerging countries.
The major part of the previous literature on stock market
development has focused on a few countries or regions and in large
extent macroeconomic indicators such as inflation and interest rates.
This paper is aimed at exploring an empirical relationship between stock
market development and the factors other than the macroeconomic ones
with an extended number of countries and a broader period.
The findings strongly supports the positive effects of leading
capital lows such as FDI and remittances and bank credits on stock
market development, i.e. an increase in FDI, remittances and bank
credits positively influence market capitalization. The received results
demonstrate that stock markets might benefit from regulations that would
remove the barriers like clumsy bureaucracy before the low of capital
and crediting.
The paper is structured in the following way: the next section
revises related literature, Section 3 describes data and methodology and
briefly discusses variables providing information about them, Section 4
explains the results of panel regression and Section 5 is assigned to
concluding remarks.
1. Previous studies
Due to the domfinance of banks over the financial systems of the
countries throughout the world, most of the former studies have tended
to use bank-based indicators of financial development such as La Porta
et al. 1997, 1998; Beck et al. 2003 etc. Although worldwide stock
markets form a respectively small part of the financial system, they are
important because they meet long-term fund needs of companies, provide
capital formation, attract foreign investors and help the companies in
staying fairly valued. The focus of recent studies has increasingly
shifted to stock market indicators due to the increasing contribution of
stock markets in economies. However, the determinants of stock market
development have been frequently ignored.
Among these studies, Garcia and Liu (1999) use the total market
value to GDP as a proxy for stock market development. With a sample of
fifteen industrial and developing countries covering a period from 1980
to 1995, they show that macroeconomic factors such as income, saving
rate, domestic credit to private sector and stock market liquidity are
important determinants of financial development, whereas inflation does
not have any explaining power. They confirm that banks and markets are
complement instead of substitutes. In the same vein, Naceur and
Ghazouani (2007) use a similar indicator as a proxy for market
capitalization and try to shed light on the macroeconomic determinants
of stock market development. Their empirical study is conducted using
unbalanced panel data from 12 Middle Eastern and Northern African (MENA)
countries. It is found that saving rate, credit to private sector; stock
market liquidity and inflation are important determinants of stock
market development. In addition, it is accepted that financial
intermediaries and stock markets are complements rather than substitutes
in the growth process.
In their study, Claessens et al. (2000) investigate the development
of stock markets in transition economies using panel data and find that
low inflation, good shareholder protection and the size of institutional
investor assets are important in explaining market capital, even after
control over income and distance. In addition, they agree that market
capitalization is positively correlated with private credit to GDP
ratio. Catalan et al. (2000) examine the determinants of stock market
development for OECD and some emerging markets and point out that the
countries with more developed contractual saving sectors also have more
developed stock markets both in terms of market capitalization and value
traded. They find causality from contractual savings to market
capitalization, particularly in the countries where capital markets are
relatively small.
Boyd et al. (2001) analyse the effect of inflation on both bank
based (liabilities for GDP, bank assets to GDP, credits to private
sector and to GDP) and stock market based (value traded, market
capitalization to GDP, turnover, volatility, equity returns) development
indicators for the financial sector. Evidence indicates there is a
significant, and economically important negative relationship between
inflation and both banking sector development and stock market activity.
Further, such relationship is nonlinear. As inflation rises, a marginal
impact of inflation on banking lending activity and stock market
development diminishes rapidly. They show that higher levels of
inflation are associated with smaller, less active and less efficient
stock markets. Similarly, Naceur and Ghazouani (2005) extend the work of
Boyd et al. (2001) to the MENA region and find that inflation has a
negative and significant influence on financial sector development.
However, they do not find evidence of threshold levels even after
controlling simultaneity and omitted variable bias and argue that a
marginal increase in inflation is harmless to stock market performance
and banking sector development whatever the rate of inflation.
Khan et al. (2006) use domestic credit to private sector, stock
market capitalization to GDP and private and public bond market
capitalization to GDP as financial market depth indicators: the growth
rate of CPI index, GDP per capita, exports plus imports to GDP and a
share of public consumption in GDP as regressors. By using a large
cross-country sample, they find the relationship between inflation and
financial depth. In contrast to the study of Naceur and Ghazouani
(2005), they discover a threshold level of inflation below which it has
a positive effect on financial depth, but above which the effect turns
negative.
The importance of foreign direct investment for stock market
development has also been discussed by Claessens et al. (2001), who find
that foreign direct investment is positively correlated with stock
market capitalization and value traded. By examining a sample of 77
countries for the period from 1975 to 2000, they argue that FDI is a
complement and not a substitute of domestic stock market development.
Since workers' remittances to developing countries have become
the second largest type of lows after foreign direct investment,
Aggarwal et al. (2006) examine whether remittances contribute to
increasing the aggregate level of deposits and credit intermediated by
the local banking sector of 99 developing countries using data for the
period from 1975 to 2003 and find strong support for the notion that
remittances promote financial development in developing countries.
Billmeier and Massa (2007) measure the macroeconomic determinants of
stock market capitalization in a panel of 17 countries in the Middle
East and Central Asia, including an institutional variable, remittances,
GDP, gross fixed capital formation to GDP, inflation change, domestic
credit to private sector and to GDP, stock value traded to GDP and oil
price index among explanatory variables. They also agree that both
institutions and remittances have a positive and significant impact on
market capitalization; in resource-rich countries, stock market
capitalization is mainly driven by the oil price.
2. Data and methodology
Random-effect SUR estimation is used along with data set that
includes a panel of country observations gathered from the World Bank
containing 30 countries over the period 1960-2007 [1], which are
available for 48 time series observations for each country [2].
This paper regresses stock market development to the set of
variables of FDI, workers' remittances and bank credits as a proxy
for the depth of the financial sector. Although stock market development
has more dimensions than market capitalization (e.g. efficiency or
infrastructural aspects), we use this measure in line with literature,
as it is considered a better and less arbitrary proxy than a composite
financial index that includes the selected dimensions of financial
deepening such as the banking and non-banking sector. Market
capitalization has commonly been accepted as one of the indicators of
financial development, specifically the leading indicator of stock
market development both in previous and recent studies (Billmeier, Massa
2009). The measures of independent variables are stated below [3]:
-- foreign direct investment inflows-to-foreign direct investment
outlows,
-- remittances,
-- bank credits to private sector.
Next, brief information about regressors and logic behind their
insertion into analysis is provided.
FDI may affect stock market development in the way of having a
positive influence on the current market value of the firms receiving
flows. Furthermore, FDI strengthens capital structure, fosters
institutionalisation and increases profitability, thus indirectly
enhancing stock market fundamentals. Similarly, the relation between FDI
and economic growth promotes stock market development via the effect on
those fundamentals. This variable is measured as FDI inflows-to-FDI
outflows to search the combined effect of inflows and outlows.
Some part of remittances is likely to be spent, while some could be
saved and invested in various investment alternatives. The part invested
in stock markets could have effect on market capitalization as the trade
volume and an increase in prices. We, hence, expect a positive relation
between remittances and market capitalization.
Credit provided by the banking sector is accepted as the indicator
of financial sector depth, thus measuring the role of banks in
financing. It is guaranteed by total credit provided by the banking
sector. The logic behind employing financial sector depth as another
regressor is that the remaining remittances after consumption may
deposit in a bank account or are invested in stock markets. The
developed finance sector is beneficial to transmitting that amount to
the economy via credit channels, while catalyzing the economy in general
and so does stock market fundamentals. An effective finance sector is
expected to have a positive impact on stock market development.
Table 1 shows descriptive statistics on the selected variables over
the sample period. Credit provided by the banking sector has the largest
amounts comparing with other variables. The minimum net FDI-inflow is
lower than net FDI-outflow. Standard deviations of all variables are
considerably high.
After the liberalization process, an increase in capital flows
among countries started. The total FDI inflows of the world slightly
increased up to 1997 when sharp growth could be observed and reached a
record in 2000 that was followed by a severe declining period. The
recovery process began in 2003 and FDI reached the record of $ 1,833
billion in 2007 after a four-year period of continuous growth. Figure 1
demonstrates the co-movement of FDI inflows to developed and developing
countries. According to the UNCTAD-World Investment Report (2008), the
total FDI inflows of the world denominated in dollars had growth rates
of 47.2 and 29.9 in 2006 and 2007 respectively. From a regional
perspective, South America has a leading position among developing
countries with a growth rate of 66.9. On the other hand, the European
Union as the leader of developed countries reached the rate of 43.0.
Additionally, a pro-cyclical movement of FDI is noticeable, i.e.
increases when the economy goes well and declines when conditions are in
a down-turn.
[FIGURE 1 OMITTED]
Figure 2 reports that remittances are more stable than FDI, which
is also verified by such researchers as Buch and Kuckulenz (2004), and
contrarily rise during the crisis due to a less violent reaction to
economic conditions. For instance, in 1995, 1998, 2000 and 2001, they
continued to increase during the crisis in Mexico, Thailand, Indonesia
and Turkey. Some studies (Ratha 2003) provide evidence for changes in
remittances during the crisis, natural disaster or conflicts between the
countries. Furthermore, India, Mexico and China are the top-three
remittance-receiving developing countries similarly to the situation
faced in India, Mexico and Philippines in 2001. According to the World
Bank statistics and IMF BOP Yearbook for 2006, France, Spain and Belgium
are the leaders of the developed countries. On the other hand,
considering changes in ranking, Moldova, Tonga and Guyana become the
top-three countries when the criterion is remittances as a percent of
GDP; in 2001, a similar situation was observed in Tonga, Lesotho and
Jordan.
[FIGURE 2 OMITTED]
[FIGURE 3 OMITTED]
Stable and continuously increasing banking sector credits, similar
to remittances, (as the percentage of GDP) are interpreted in Figure 3.
During the early and late 1960s, a sharp increase can be noticed. After
the early 1980s, the credits given by the banking sector started
surpassing GDP with percentages higher than 100 per cent and achieved
180 per cent in the middle 2000s.
3. Results
The estimates of the equation are interpreted in Table 2. All
variables of the first regression have significant and positive
coefficients. The results strongly support the effects of FDI,
workers' remittances and total bank credits on stock market
development. The coefficients showing the magnitude of regressors on
stock market development signify that a 1% increase in FDI,
workers' remittances and total credit provided to private sector
respectively results in % 0.09; 0.06 and 0.17 increases in market
capitalization. The signs of significant explanatory powers of the
variables are consistent with the expectations mentioned before.
The results of the model, having a dummy variable included to
explore the reliability of classifying countries as advanced or
emerging, show similarities with the model having no dummy. All
regressors except the dummy one have positive coefficients--a setting
inferring their positive effects on market capitalization. A negative
coefficient of the dummy variable points to the fact that an emerging
country reduces the magnitude of variable effects on market
capitalization.
A high coefficient of remittances signals out that the involved
variable affected stock market development twice as high as other
determinants, and, in addition, relieved countries from undesirable
effects from FDI, the higher volatility of which, compared to
remittances, was proved in literature.
4. Concluding remarks
Our paper is aimed at emphasizing the role of some selected
variables, including FDI, remittances and credits provided by the
banking sector in explaining stock market development. Our paper is
different from the previous ones in terms of the longevity of the period
it takes into account and the number of the countries it intends to
analyze, e.g. covers a 48-year period spanning from 1960 to the starting
point of financial crisis in 2007 and contains thirty advanced and
emerging countries.
By using SUR estimation, we find that all variables have
statistically significant positive effects on market capitalization as a
proxy for stock market development. Our results are also consistent with
the findings of the previous studies such as Claessens et al. (2001),
Aggarwal et al. (2006) and Billmeier and Massa (2007). The obtained
results indicate that stock markets might benefit from regulations that
would remove the barriers like clumsy bureaucracy before the flow of
capital and facilitate the credit system.
doi: 10.3846/btp.2013.06
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[1] The panel consists of Argentina, Belgium, Brasil, Bulgaria,
Canada, Australia, China, Czech Republic, Denmark, France, Germany,
Greece, Hong Kong, Hungary, Italy, Japan, Mexico, Netherlands, Poland,
Portugal, Romania, Slovenia, Slovak Republic, Singapore, Spain, Sweden,
Switzerland, Turkey, the UK, and the US.
[2] As missing data of the countries decrease the total number of
observations, the panel is unbalanced.
[3] Natural logarithms of the variables are employed in the
analysis.
[4] Dummy is used to classify countries into two: advanced and
emerging according to the IMF classification. Emerging countries are
given "1", advanced countries are given "0".
Pinar Evrim-Mandaci (1), Bora Aktan (2), Guluzar Kurt-Gumus (3),
Manuela Tvaronaviciene (4)
(1,3) Dokuz Eylul University, Faculty of Business Administration,
Department of Accounting and Finance, Kaynaklar Campus, 35160 Buca,
Izmir, Turkey
(2) University of Bahrain, College of Business Administration,
Department of Economics and Finance, Isa Town, Kingdom of Bahrain
(4) Vilnius Gediminas Technical University, Sauletekio al. 11,
10223 Vilnius, Lithuania
E-mails: (1)
[email protected]; (2)
[email protected]
(corresponding author);
(3)
[email protected]; (4)
[email protected]
Received 02 December 2012; accepted 14 January 2013
(1,3) Dokuz Eylul universitetas, Verslo administravimo fakultetas,
Buhalterines apskaitos ir finansu katedra, Kaynaklar teritorija, 35160
Buca, Izmiras, Turkija
(2) Bahreino universitetas, Verslo administravimo kolegija,
Ekonomikos ir finansu katedra, Isa miestas, Bahreino Karalyste
(4) Vilniaus Gedimino technikos universitetas, Sauletekio al. 11,
10223 Vilnius, Lietuva El. pastas:
(1)
[email protected]; (2)
[email protected] (corresponding
author); (3)
[email protected]; 4
[email protected]
Iteikta 2012-12-02; priimta 2013-01-14
Pinar EVRIM-MANDACl. Professor of Finance, Doctor at the Department
of Accounting and Finance, Faculty of Business, Dokuz Eylul University,
Turkey. Research activities: capital markets, corporate finance,
international investments, security analysis, portfolio management,
emerging markets, merger and acquisitions, asset pricing models, capital
structure and corporate governance.
Bora AKTAN. Assistant Professor of Finance, Doctor at the College
of Business Administration, University of Bahrain, Kingdom of Bahrain.
Research activities: emerging financial markets, global investments and
real estate investment trusts, stock market behavior, asset pricing and
financial time-series analysis, volatility modeling-forecasting, and
energy issues.
Guluzar KURT-GUMUS.. Associate Professor of Finance, Doctor at the
Department of Accounting and Finance, Faculty of Business, Dokuz Eylul
University, Turkey. Research activities: global investing, emerging
capital markets and corporate finance.
Manuela TVARONAVICIENE. Professor of Economics, Doctor at the
Department of Enterprise Economics and Management, Faculty of Business
Management, Vilnius Gediminas Technical University, Lithuania. Research
interests: economic growth, sustainable development, globalization,
investment, innovation, performance of stock markets.
Table 1. Descriptive statistics on regression
variables for the period from 1960 to 2007
(billion USD)
Variables Mean S.D. Max. Min.
Mrkt 59,300 205,000 1,990,000 41.11
Capa
FDI- 1,280 3,590 27,600 -20,600
inflowb
FDI- 1,200 2,890 29,300 -3,370
outflowc
Remd 2.22 3.14 25.7 0.005
Depthe 128,000 360,000 3,310,000 6.78
Source: World Bank
(a) Market capitalization in dollars
(b) Foreign direct investment-net inflows
(c) Foreign direct investment-net ouflows
(d) Remittances
(e) Credit provided by banking sector
Table 2. Panel regression results, 1960-2007
Regressor Model (1) Model (2)
Inflow/Outflow 0.09 0.08
(3.33)*** (2.90)***
Rem 0.17 0.17
(3.24)*** (3.23)***
Depth 0.057 0.05
(2.21)** (1.77)*
Dummy (4) -- -1.24
(-1.92)*
Constant 8.75 9.32
(3.14)*** (3.36)***
Adj.R-squared 0.12 0.13
F-statistic 67.94*** 55.83***
Observations 1416
Periods 48
Cross-sections 30
Notes: Dependent variable: log of market capitalization.
The table contains coefficients with t-statistics in
parenthesis. The panel is not balanced. Symbols
*, **, and *** denote significance at 10, 5, and 1
percent respectively.