We look at the relationship between stock market and real economy for China.
Information acquisition about firms; e. Basically, liquidity refers to the ease with which an asset in this case securities can be turned into cash.
The liquidity role stands out clearly as the most significant among the numerous functions provided by the stock market. In the words of Levine, without a liquid stock market, many profitable long term investment would not be undertaken because savers would be reluctant to tie up their investments for long periods of time.
However, as shown by Levine and Bencivenga, Smith and Starrliquid stock markets reduces the downside risk and cost of investing in projects that do not pay off for a long time, thus making such investment attractive. This is because with a liquid equity market, the initial investors do not lose access to their savings for the duration of the investment since they can quickly, cheaply and confidently sell their stake in the company.
Thus more liquid stock markets ease investment in long run, potentially more profitable projects thereby improving the allocation of capital and enhancing prospects for long run growth Levine, Without efficiently run stock markets, investors have limited means to diversify their portfolios.
As a result, investors may avoid equity stakes because they are too risky. Hence, corporations may find it difficult to raise equity capital.
However, with creation of stock markets, individuals can diversify firm-specific risks, thus making investment in firms more attractive Bakaert and Harvey, PaulDeverreux and Smith and Obstfeldgreater risk diversification can influence growth by shifting investment into higher-return projects.
Intuitively since high expected return projects also tend to be comparatively risky, better risk diversification through internationally integrated stock markets will foster investment in higher return projects. The resultant effect is a boost in the economy, leading to economic growth.
Stock market development may also influence corporate control through the take-over mechanism. The presumption is that, if management does not maximize firm value, another economic agent may take control of the firm, replace management and reap the gains from the efficient firm.
Such consciousness which is likely to cause a company to be better managed may not doubt be transmitted into the wider macroeconomic management and consequently lead to economic development in the country. Information Acquisition about Firms: In larger, more liquid markets, it will be easier for an investor who has gotten information to trade at posted prices.
This will enable the investor to make money before the information becomes widely available and price change. The ability to profit from information will stimulate investors to research and monitor firms. Better information about firms improves resource allocation and spurs economic growth.
By agglomerating savings, stock market provide long term capital to both the government and the private sector, thereby enabling them to embark on worthy projects which require large capital injections and enjoy some economies of scale. Thus, stock markets that ease resource mobilization can boost economic efficiency and accelerate growth Levine and Zervos, Critics of Stock Market Development and Economic Growth A number of economists have suggested that the existence of stock market has little relevance to real economic activity.
Wai and Patrick argue that securities markets have generally not contributed positively to the economic development of those countries that created the markets. In a similar vein, Calamati posits that securities markets increases economic fluctuations and therefore hinder economic growth.
Arguing against the impact of stock market liquidity on economic growth, Bhide contends that stock market liquidity may negatively influence corporate governance because very liquid stock market may encourage investor myopia.
This is because, instant stock market liquidity i.Since stock market activity stimulates economic growth and in turn stock market development is stimulated by economic growth, investment and other efficiency measures that induce greater liquidity and active trade can be implemented with prospect of increased economic growth.
On Stock Market Development, Banks & Growth 45 between the stock and currency markets in the wake of unfavourable economic shocks may exacerbate macroeconomic instability and reduce long-term growth.
83 growth-led finance hypothesis. According to this hypothesis economic growth promotes the development of financial sectors i.e., when there is economic enhancement then it results in.
and stock market development that is independent of other variables associated with economic growth. This paper builds on Atje and Jovanovic's () study of stock market trading and economic growth in two ways.
We use conglomerate indexes of stock market development that combine information on stock market size, trading, and integration. However, when an economy grows, it generates a surplus, which fuels the growth of financial sector.
Hence, the direction of causality between financial market development and economic growth remains ambiguous and open to empirical scrutiny.
Furthermore, the direction of this causal relationship has significant implications for policy. Stock Market Development and Economic Growth - Free download as PDF File .pdf), Text File .txt) or read online for free.