Working Paper: NBER ID: w13089
Authors: Galina Hale; Assaf Razin; Hui Tong
Abstract: This paper addresses how creditor protection affects the volatility of stock market prices. Credit protection reduces the probability of oscillations between binding and non-binding states of the credit constraint; thereby lowering the rate of return variance. We test this prediction of a Tobin's q model, by using cross-country panel regression on stock price volatility in 40 countries over the period from 1984 to 2004. Estimated probabilities of a liquidity crisis are used as a proxy for the probability that credit constraints are binding. We find support for the hypothesis that institutions that help reduce the probability of oscillations between binding and non-binding states of the credit constraint also reduce asset price volatility.
Keywords: creditor protection; stock price volatility; Tobin's q model; cross-country analysis; liquidity crises
JEL Codes: E44; E5
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| better creditor protection (G33) | lower probability of liquidity crises (F65) |
| lower probability of liquidity crises (F65) | lower stock market volatility (G17) |
| better creditor protection (G33) | lower stock market volatility (G17) |
| higher probability of liquidity crises (F65) | higher stock return volatility (G17) |