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Credit Constraints and Stock Price Volatility

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  • 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.

Suggested Citation

  • Galina Hale & Assaf Razin & Hui Tong, 2007. "Credit Constraints and Stock Price Volatility," NBER Working Papers 13089, National Bureau of Economic Research, Inc.
    • Handle: RePEc:nbr:nberwo:13089
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    JEL classification:

    • E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy
    • E5 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit

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