The Impact of Credit Protection on Stock Prices in the Presence of Credit Crunches

Galina Hale, Assaf Razin and Hui Tong

No 15141, NBER Working Papers from National Bureau of Economic Research, Inc

Abstract: Data show that better creditor protection is correlated across countries with lower average stock market volatility. Moreover, countries with better creditor protection seem to have suffered lower decline in their stock market indexes during the current financial crisis. To explain this regularity, we use a Tobin q model of investment and show that stronger creditor protection increases the expected level and lowers the variance of stock prices in the presence of credit crunches. There are two main channels through which creditor protection enhances the performance of the stock market: (1) The credit-constrained stock price increases with better protection of creditors; (2) The probability of a credit crunch leading to a binding credit constraint falls with strong protection of creditors. These mechanisms are consistent with the patterns observed in the cross-country data. We find that except for OECD countries with low creditor protection, stock market return is negative in the crisis years and positive in non-crisis years.

JEL-codes: F4 G0 (search for similar items in EconPapers)
Date: 2009-07
New Economics Papers: this item is included in nep-bec
Note: IFM
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Citations: View citations in EconPapers (1)

Published as Galina Hale & Assaf Razin & Hui Tong, 2009. "The impact of creditor protection on stock prices in the presence of credit crunches," Proceedings, Federal Reserve Bank of San Francisco, issue Jan.

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Related works:
Working Paper: The Impact of Creditor Protection on Stock Prices in the Presence of Credit Crunches (2011)
Working Paper: The impact of creditor protection on stock prices in the presence of credit crunches (2011)
Journal Article: The impact of creditor protection on stock prices in the presence of credit crunches (2009)
Working Paper: The Impact of Creditor Protection on Stock Prices in the Presence of Credit Crunches (2009)
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