Creditor Moral Hazard in Equity Markets: A Theoretical Framework and Evidence from Indonesia and Korea

Ali Kutan and Ayse Y. Evrensel ()

William Davidson Institute Working Papers Series from William Davidson Institute at the University of Michigan

Abstract: This paper expands on the work of Sarno and Taylor (1999) and develops three alternative models in which creditor moral hazard might occur in equity markets under different assumptions regarding the existence of asset market bubbles and implicit guarantees. Incorporating IMF-related news associated with the own country and with other countries to our models, we are able to predict the expected change in investor behavior and its effect on stock returns. Using daily stock returns for Indonesia and Korea, we test the ability of the models to predict the expected changes in stock returns on the days of IMF-related news such as program negotiations and program approval. Our results regarding Korea and, to a lesser extent, Indonesia are consistent with the creditor moral hazard models that assume implicit guarantees and asset price bubbles. Our results show that, if there is creditor moral hazard in equity markets, its duration could be measured only by days, suggesting that creditor moral hazard is a short-term phenomenon.

Keywords: Creditor moral hazard; financial markets; the IMF; and news (search for similar items in EconPapers)
JEL-codes: F32 F33 F34 (search for similar items in EconPapers)
Pages: 24 pages
Date: 2004-02-01
New Economics Papers: this item is included in nep-fin, nep-fmk and nep-sea
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (3)

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