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The Quality Effect; Does Financial Liberalization Improve the Allocation of Capital?

  • Abdul d Abiad
  • Nienke Oomes
  • Kenichi Ueda

The study documents evidence of a "quality effect" of financial liberalization on allocative efficiency, which is measured by the dispersion in Tobin's Q across firms. Based on a simple model, the authors predict that financial liberalization, by equalizing access to credit, reduces the variation in expected marginal returns. They test this prediction using a new financial liberalization index and firm-level data for five emerging markets: India, Jordan, Korea, Malaysia, and Thailand. They find strong evidence that financial liberalization, rather than financial deepening, improves allocative efficiency.

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Paper provided by International Monetary Fund in its series IMF Working Papers with number 04/112.

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Length: 35
Date of creation: 01 Jun 2004
Handle: RePEc:imf:imfwpa:04/112
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  1. Obstfeld, Maurice, 1994. "Risk-Taking, Global Diversification, and Growth," American Economic Review, American Economic Association, vol. 84(5), pages 1310-29, December.
  2. Ashoka Mody & Abdul d Abiad, 2003. "Financial Reform; What Shakes it? What Shapes it?," IMF Working Papers 03/70, International Monetary Fund.
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  4. Love, Inessa, 2001. "Financial development and financing constraints - international evidence from the structural investment model," Policy Research Working Paper Series 2694, The World Bank.
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  7. Rajan, Raghuram G & Zingales, Luigi, 1998. "Financial Dependence and Growth," American Economic Review, American Economic Association, vol. 88(3), pages 559-86, June.
  8. Olivier Blanchard & Changyong Rhee & Lawrence Summers, 1990. "The Stock Market, Profit and Investment," NBER Working Papers 3370, National Bureau of Economic Research, Inc.
  9. Fumio Hayashi, 1981. "Tobin's Marginal q and Average a : A Neoclassical Interpretation," Discussion Papers 457, Northwestern University, Center for Mathematical Studies in Economics and Management Science.
  10. Anusha Chari (Chicago) & Peter Henry (Stanford), 2004. "The Invisible Hand in Emerging Markets," Econometric Society 2004 North American Winter Meetings 629, Econometric Society.
  11. Devereux, Michael B & Smith, Gregor W, 1994. "International Risk Sharing and Economic Growth," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 35(3), pages 535-50, August.
  12. Arturo Galindo & Fabio Schiantarelli & Andrew Weiss, 2002. "Does Financial Liberalization Improve the Allocation of Investment?: Micro Evidence from Developing Countries," Research Department Publications 4295, Inter-American Development Bank, Research Department.
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  14. Joao F. Gomes, 2001. "Financing Investment," American Economic Review, American Economic Association, vol. 91(5), pages 1263-1285, December.
  15. Beck, Thorsten & Levine, Ross & Loayza, Norman, 2000. "Finance and the sources of growth," Journal of Financial Economics, Elsevier, vol. 58(1-2), pages 261-300.
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  17. Rui Albuquerque & Hugo A. Hopenhayn, 2004. "Optimal Lending Contracts and Firm Dynamics," Review of Economic Studies, Oxford University Press, vol. 71(2), pages 285-315.
  18. Jith Jayaratne & Philip E. Strahan, 1996. "The Finance-Growth Nexus: Evidence from Bank Branch Deregulation," The Quarterly Journal of Economics, Oxford University Press, vol. 111(3), pages 639-670.
  19. Francis E. Warnock & Hali J Edison, 2001. "A Simple Measure of the Intensity of Capital Controls," IMF Working Papers 01/180, International Monetary Fund.
  20. Christopher A. Hennessy, 2004. "Tobin's "Q", Debt Overhang, and Investment," Journal of Finance, American Finance Association, vol. 59(4), pages 1717-1742, 08.
  21. Stephen Bond, 2000. "Noisy Share Prices and the Q Model of Investment," Econometric Society World Congress 2000 Contributed Papers 1320, Econometric Society.
  22. Robert G. King & Ross Levine, 1993. "Finance and Growth: Schumpeter Might Be Right," The Quarterly Journal of Economics, Oxford University Press, vol. 108(3), pages 717-737.
  23. Cho, Yoon Je, 1988. "The effect of financial liberalization on the efficiency of credit allocation : Some evidence from Korea," Journal of Development Economics, Elsevier, vol. 29(1), pages 101-110, July.
  24. Geert Bekaert & Campbell R. Harvey, 1997. "Foreign Speculators and Emerging Equity Markets," NBER Working Papers 6312, National Bureau of Economic Research, Inc.
  25. Kenichi Ueda, 2006. "Banks As Coordinators of Economic Growth," IMF Working Papers 06/264, International Monetary Fund.
  26. Cemile Sancak, 2002. "Financial Liberalization and Real Investment; Evidence From Turkish Firms," IMF Working Papers 02/100, International Monetary Fund.
  27. Manuel Arellano & Stephen Bond, 1991. "Some Tests of Specification for Panel Data: Monte Carlo Evidence and an Application to Employment Equations," Review of Economic Studies, Oxford University Press, vol. 58(2), pages 277-297.
  28. Kenichi Ueda, 2000. "Increasing Returns, Long-Run Growth and Financial Intermediation," Econometric Society World Congress 2000 Contributed Papers 1545, Econometric Society.
  29. Wurgler, Jeffrey, 2000. "Financial markets and the allocation of capital," Journal of Financial Economics, Elsevier, vol. 58(1-2), pages 187-214.
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