Research Article: 2018 Vol: 22 Issue: 2
Kunofiwa Tsaurai, University of South Africa
Stock Market Growth, Determinants, Emerging Markets.
The role played by financial development, in particular stock market in boosting economic growth is no longer a disputable matter (Al-Malkawi et al., 2012; Murinde, 2012; Greenwood et al., 2013; Hossein & Yazdan, 2007; Uddin et al., 2013). The determinants of stock market development are what empirical work so far has not yet agreed upon. In other words, there is no agreeable list of factors that influence stock market development in the existing empirical literature. It is for this reason that the knowledge of what factors determine stock market development are of paramount importance as that has a bearing on economic growth.
Studies on the determinants of financial development have dominated the last decade both in developing and developed countries. Specifically, majority of these studies focused on the determinants of stock market development in a single country as opposed to a bloc of countries. The current study addresses the weakness by focusing on the determinants of stock market development in emerging markets. Factors such as foreign direct investment (FDI), economic growth, banking sector development, infrastructural development, savings, inflation, trade openness, exchange rates and stock market liquidity were found by the empirical literature to be the main variables that were instrumental in influencing stock market development. It is the basis upon which these variables were included in the model and tested using panel data analysis methods. The study is expected to help emerging markets to development stock market development policies that enhances economic growth. It is also expected to guide emerging markets on what policies needs to be crafted and implemented in order to deepen stock markets for economic growth purposes.
The structure of the study is as follows: Part 2 is the literature on the determinants of stock market development. Part 3 discusses the stock market development trends in emerging markets. Part 4 explains research methodology, results discussion and interpretation and part 5 concludes the study. Part 6 is bibliography.
Macroeconomic Determinants of Stock Market Development Empirical Literature
A number of empirical studies on determinants of stock market development have been carried out so far but those which focused on emerging markets are quite scant. Using correlation analysis with secondary data (1992-2012), Yusoff & Guima (2015) investigated the determinants of stock market development in Middle East and North Africa (MENA) region. Variables such as oil rent, income per capita, domestic savings, interest rates, exchange rates and inflation were found to have had an influential impact on stock market development in the MENA region. A study done by Kaehler et al. (2014) revealed that the development of the Iraq Stock Exchange during the period from 2004 to 2014 was influenced by the consumer price index (inflation), electricity consumption as a ratio of GDP, overall security situation, interest rates and exchange rates. Cherif & Gazdar (2010) investigated the determinants of stock market development in the 14 MENA region countries using panel data and instrumental variable techniques with data ranging from 1990 to 2007. They found out that interest rates, income level, stock market liquidity and banking sector development were the major factors that influenced stock market development in the MENA region.
In a study of the determinants of stock market in Pakistan using regression analysis with monthly time series data (2007-2012), Dev & Shakeel (2013) found out that portfolio investment and market liquidity were the two major factors that influenced stock markets growth in Pakistan. Market capitalisation and the discount rates were found to have had an insignificant positive impact on stock market growth in Pakistan. John et al. (2010) explored the determinants of stock market development in Nigeria using error correction model (ECM) with annual time series secondary data (1970-2007). The lag of stock market development, rate of savings and stock market liquidity were found to be the instrumental factors behind stock market development in Nigeria.
Pushpakumara & Anthony (2009) also investigated the determinants of stock market development in Sri Lanka using quantitative techniques such as correlation, regression and analysis of variance (ANOVA) with monthly time series data from 1999 to 2008. Their findings were threefold: (1) Inflation and exchange rates had a marginal positive impact on stock market capitalisation, (2) Interest rates negatively affected stock market and (3) Factors which had a significant positive influence on stock market growth in Sri Lanka include gross domestic product (GDP), savings, investment and money supply. Using structural autoregressive (SVAR) approach with quarterly time series data from 2000 to 2014, Akosah (2016) studied the determinants of stock market development in Ghana. Election cycles, financial depth, foreign direct investment (FDI), economic growth and current inflation rates were found to be the major positive determinants of stock market development in Ghana in the short and long run. Among the variables which had a deleterious impact on stock market development in Ghana included country risk premium, treasury bill rates and government expenditure (Akosah, 2016, p. 50).
Using vector error correction model (VECM), Rahman et al. (2009) studied the determinants of Malaysian stock market development. They observed that interest rates, exchange rates, foreign currency reserves, industrial production index and money supply determined the direction and rate of stock market development in Malaysia. The Malaysia stock market growth was more influenced by industrial production index and foreign currency reserves than it was responsive to exchange rates, interest rates and money supply (Rahman et al., 2009, p. 96). Investigating Dhaka (in Bangladesh) stock exchange growth determinants using multiple regression analysis with annual time series data from 1995 to 2015, Islam et al. (2017) noted that consumer price index (inflation), economic growth and total market capitalisation were the major variables which influenced stock market development in Bangladesh.
Other empirical studies which explored the determinants of stock market development are summarised in Table 1.
|Table 1: A Summary Of The Empirical Studies On Stock Market Development|
|Ho & Iyke (2017)||No specific country||A literature review approach||Institutional factors such as trade openness, financial liberalization, corporate governance and legal protection of investors had a positive effect on stock market development. Macroeconomic variables such as high inflation and weak exchange rates reduce stock market development whilst real GDP and high economic growth rate were found to have had a positive influence on stock market development.|
|Naceur et al. (2007)||MENA region||Panel data analysis||Stock market liquidity, savings and financial intermediary were the three variables which were found to have had a significant positive impact on stock market development in the MENA region.|
|Hosain & Nowreen (2015)||Bangladesh||Multiple regression analysis||Stock market development was found to have been positively influenced by stock market liquidity, liquidity and size in Bangladesh. Institutional and regulatory factors also determined stock market development in Bangladesh (Hosain & Nowreen, 2015, p. 91).|
|El-Nader & Alraimony (2014)||Jordan||VECM and variance decomposition||Stock market development in Jordan was found to have been positively affected by credit to the private sector, gross capital formation, money supply, total value traded and consumer price index. Net remittances and nominal GDP had a negative impact on stock market development in Jordan. On the other hand, variance decomposition approach noted that stock market development and macroeconomic variables studied were co-integrated.|
|Owiredu et al. (2016)||Ghana||Multiple regression analysis||Only stock market liquidity was found to have had a significant positive impact on stock market development. Other macroeconomic variables such as domestic savings, private capital flows and inflation had non-significant positive influence on stock market development in Ghana.|
|Jun et al. (2015)||Cameroon||Multiple regression analysis||High stock market liquidity, private capital flows and foreign direct investment (FDI) were found to have had a positive and significant impact on stock market development in Cameroon. On the contrary, high banking sector development and economic growth negatively but non-significantly influenced stock market development in Cameroon.|
|El-Wassal (2013)||No specific country||A literature review approach||Regulatory framework, political stability, banking sector development, monetary policy, fiscal policy, economic size, economic growth, stage of economic development, portfolio capital flows and trade openness were the variables that were found to have an influence on stock market development.|
|Shahbaz et al. (2016)||Pakistan||VECM approach||Whilst inflation, economic growth investment and financial development had a positive impact on stock market development, trade openness was found to have had a negative influence on stock market development in Pakistan.|
|Zafar (2013)||Pakistan||Multiple regression model||The findings are threefold: (1) Banking sector development had a negligible impact on stock market development, (2) real interest rates negatively influenced stock market development and (3) FDI and stock market value traded positively and significantly affected stock market development in Pakistan.|
|Nguyen & Hanh (2012)||Southeast Asian countries||Panel regression analysis||Factors such as macroeconomic stability, stock market liquidity, savings, financial development and income growth rate positively influenced stock market development. On the other hand, stock market development was negatively affected by change in inflation rates and financial crisis in Southeast Asian countries.|
|Acquah-Sam (2016)||Ghana||Multiple regression model||FDI and inflation had an insignificant influence on stock market development whereas treasury bill rates negatively affected stock market development in Ghana. Variables which positively and significantly affected stock market development in Ghana include economic growth and gross capital formation.|
|Ayunku & Etale (2013)||Nigeria||Multiple regression model||High inflation and savings rate negatively impacted on stock market development in Nigeria. The same study revealed that market capitalization, exchange rates and credit to the private sector had a positive and significant influence on stock market development in Nigeria.|
Source: Author compilation.
Table 2 shows averages of the stock market development indicators for the emerging markets during the period from 1994 to 2014.
|Table 2: Stock Market Structure In Emerging Markets (1994-2014)|
|Stock market capitalisation
(% of GDP)
|Stock market total value traded (% of GDP)||Stock market turnover ratio (%)|
|Republic of Korea||60.94||100.92||179.16|
Source: Author?s calculations based on the World Development Database
Hong Kong, Malaysia, Singapore and South Africa recorded the highest mean on stock market capitalisation ratio above the overall mean of 87.04% of GDP. The same group of nations are outliers considering the size of their mean stock market capitalisation ratio which are well above the overall mean. Argentina and Czech Republic are the two countries with the lowest mean stock market capitalisation ratios which were below the overall mean of 87.04% of GDP.
China, Hong Kong, Republic of Korea and Singapore had their mean stock market value traded ratios above the overall mean of 46.55% of GDP. Argentina, Colombia, Mexico, Peru and Poland had the lowest mean stock market value traded ratios below the overall mean. In terms of the mean stock market value traded ratios Singapore and Republic of Korea are the outliers.
Colombia and Peru recorded the lowest mean below the overall mean whereas Turkey, Thailand, India, China and Republic of Korea had the highest mean stock market turnover ratio above the overall mean of 60.86% of stock market capitalisation. Republic of Korea, Turkey, India and China are the outliers using stock market turnover as a criteria.
Data and Unit of Analysis
Annual panel secondary data of emerging markets ranging from 1994 to 2014 was used for the purposes of the current study. The choice of emerging markets included in the current study is according to International Monetary Fund (2015) report and data availability. For information on variables used and sources of data refer Table 3.
|Table 3: Variables Summary|
|Variable||Description||Proxy used||Source of data|
|STOCK||Stock market development||Stock market capitalisation (% of GDP)||World Development Indicators (WDI), International Financial Statistics (IFS) and Global Financial Indicators (GDI)|
|FDI||Foreign direct investment||Net FDI (% of GDP)||World Development Indicators (WDI), International Financial Statistics (IFS) and Global Financial Indicators (GDI)|
|GROWTH||Economic growth||GDP per capita||World Development Indicators (WDI), International Financial Statistics (IFS) and Global Financial Indicators (GDI)|
|BANK||Banking sector development||Domestic credit to private sector by banks (% of GDP)|
|INFR||Infrastructural development||Electric consumption (% of GDP)|
|SAV||Gross savings||Gross domestic savings (% of GDP)|
|INFL||Inflation||Inflation consumer prices (annual %)|
|OPEN||Trade openness||Total exports and imports (% of GDP)|
|EXCH||Exchange rate||Local currency against the United States Dollar (US $)|
|LIQUID||Stock market liquidity||Stock market traded value (% of GDP)|
Source: Author compilation.
General Model Specification
Taking into account the literature (section 2) and availability of data, the determinants of stock market development are summarised in equation 1.
STOCK =f (FDI, GROWTH, INFR, SAV, INFL, OPEN, EXCH, BANK, LIQUID) 
Variables Used, Theory Intuition and a Priori Expectation
Econometric Model Specification
Consistent with Sghaier and Abida (2013), equation 1 was transformed to equation 2 in order to show the econometric relationship between stock market development and its determinants. Equation 2 was estimated using the panel data analysis methods (pooled OLS, fixed and random effects).
Where: represents the intercept term whilst stands for co-efficients of FDI, economic growth, infrastructural development, savings, inflation, trade openness, exchange rates, banking sector development and stock market liquidity respectively. t andi subscripts respectively represents country and time. ?it is the error term.
This section focus on panel unit root tests, panel co-integration tests and panel data analysis (Tables 5, 6 and 7 respectively).
|Table 4: Theory Intuition And Expected Sign(S)|
|Variable||Theory intuition||Source||Expected sign|
|FDI||FDI inflows enhance stock market competition and thereby making them more efficient. There are high chances that multinational firms that bring FDI inflow end up listing their shares on the stock exchange of the host country. FDI can increase the liquidity of the stock markets if a portion of foreign investments is used to acquire shares in the host country.||Shahbaz & Rahman (2010); Levine (1997)||+|
|GROWTH||Economic growth leads to an increase of GDP per capita and the demand of financial services. This leads to the introduction of new financial sector companies in order to satisfy the high appetite for financial services.||Yartey & Adjasi (2007); Robinson (1952); & Patrick (1966)||+|
|BANK||Banks increase the quantity of money available for investment in stock market through pooling savings and reducing liquidity risk.||Ndikumana (2005)||+|
|INFR||Increase in infrastructure investment enhances the overall performance of firms through lowering down the cost of production, opening up new production avenues and markets.||Ifeakachukwu (2015)||+|
|SAV||The amount of capital that flows into the stock market to a larger extent relies on the quantity of savings in the economy.||Garcia & Liu (1999)||+|
|INFL||High inflation result in repression and underdevelopment of the financial sector by making holding on to money assets less vital as it they can easily lose value.
Investors are more inclined to replace transaction services for money balances in a high inflation environment in order to protect the value of their assets. Their decisions lead to higher financial development as the rate at which financial services are produced goes up in order to match the increased demand.
|Haslag & Koo (1999); Ikhide (1992);
|OPEN||Openness of the economy spurs stock market development through attracting foreign and domestic investment into the financial system.||Huang & Temple (2005)||+|
|EXCH||A change in exchange rates influence the company’s foreign profits and overall operations which in turn affect stock prices of that company.||Olugbenga (2012); Asaolu & Ogunmuyiwa (2011)||+/-|
|LIQUID||Liquid stock markets allow investors to access their savings with ease and enhance capital allocation. This increases the investors’ confidence in the stock market hence promoting stock market development in the long run.||Yartey & Adjasi (2007)||+|
|OPEN.FDI||Trade openness of the economy attracts foreign direct investment into the financial system hence enhancing financial sector development.||Huang & Temple (2005)||+|
Source: Author compilation.
All variables were stationary at first difference (Table 5), a condition which has to be met before data analysis is done. The finding paved way for panel co-integration and panel main data analysis.
|Table 5: Panel Root Tests?Individual Intercept And Trend|
The results of a co-integration test among the ten variables under study are shown in Table 6.
|Table 6: Kao Residual Co-Integration Test|
|Augmented Dickey-Fuller (ADF)||-3.7938||0.0001|
Source: Author’s compilation from E-Views .
The probability (0.0001) which is less than 5% means that the null hypothesis which says that there is no co-integration among the ten variables (stock market development, stock market liquidity, banking sector development, exchange rates, trade openness, inflation, savings, infrastructural development, economic growth and FDI) is rejected. In other words, there is a long run relationship among the ten variables under study in emerging markets. Table 7 shows the panel data analysis results.
|Table 7: Panel Regression Results For Stock Market Development Function|
|Fixed effects||Random effects||Pooled OLS|
|Prob (F-Statistic)||0.0000||Prob (F-statistic)||0.0000||Prob (F-statistic)||0.0000|
Source: Author compilation from E-Views (8)
***/**/* indicates 1%, 5% and 10% significance levels respectively.
Under all the three panel data analysis approaches, savings, exchange rate and stock market liquidity had a positive and significant impact on stock market development in line with literature (Table 4). FDI positively but non-significantly influenced stock market development under fixed and random effects whereas pooled OLS indicates that FDI had a positive and significant impact on stock market development in emerging markets, in line with Shahbaz and Rahman (2010).Economic growth negatively impacted on stock market development under fixed effects, positively and significantly influenced stock market development under random effects and positively but non-significantly impacted on stock market development under pooled OLS. Contrary to theoretical predictions, infrastructural development negatively influenced stock market development across all the three panel data analysis approaches.
As expected and in line with theoretical predictions (Haslag & Koo, 1999), inflation had a negative impact on stock market development in emerging markets. Trade openness positively but insignificantly affected stock market development under fixed effects whilst stock market development was positively and significantly influenced by trade openness under both random effects and pooled OLS in emerging markets. The results resonate with Huang and Temple (2005) who argued that openness of the economy spur stock market development through attracting foreign and domestic investment into the financial system. Both fixed and random effects found out that banking sector development had a positive but non-significant impact on stock market development. On the other hand, stock market development was positively and significantly affected by banking sector development in emerging markets. The findings are in line with Ndikumana (2005) who observed that banks increase the quantity of money available for investment in stock market through pooling savings and reducing liquidity risk.
The current study explored the determinants of stock market development in emerging markets using the pooled OLS, fixed and random effects approaches with data ranging from 1994 to 2014. The major factors influencing stock market development in line with empirical literature included FDI, economic growth, infrastructural development, savings, inflation, trade openness, exchange rates, banking sector development and stock market liquidity. The impact of these factors on stock market development in emerging markets was then tested using an empirical model (equation 2). FDI, savings, economic growth, trade openness, exchange rates, banking sector development and stock market liquidity to a larger extent had a positive impact on stock market development in emerging markets (Table 7). Majority of the findings on the determinants of stock market development resonate with theoretical literature (Table 4). The current study therefore urges emerging markets to implement policies that accelerate economic growth, FDI, banking sector development, savings, trade openness and stock market liquidity in order to enhance their stock market development. Future studies should take into account the dynamic nature of stock market development data. They should also address the endogeneity problem that normally characterise the relationship between stock market development and its determinants.