## _wp0832

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---

### Overview and scope
- Studies macroeconomic and institutional determinants of stock market development in emerging economies using a panel dataset of 42 countries for the period 1990–2004.
- Uses market capitalization as a percentage of GDP (capitalization ratio) as the primary indicator of stock market development.
- Investigates the roles of domestic savings, investment, stock market liquidity, macroeconomic stability, private capital flows, banking sector development, and institutional quality (including political risk).

### Stylized facts and notable statistics (1990–2004)
- Market capitalization of emerging market countries: grew from less than $2 trillion in 1995 to about $5 trillion in 2005.
- Emerging markets account for more than 12 percent of world market capitalization (Standard and Poor, 2005).
- In the sample of 42 emerging market countries, market capitalization as a percentage of GDP increased from about 20 percent in 1990 to about 40 percent in 2004 (sample average).
- Net equity flows to emerging markets: roughly $200 billion per year.
- Equity flows share of external financing to developing nations: 80 percent during 1999–2003 versus 60 percent during 1993–98 (Global Development Finance, 2005).
- Share price behavior: emerging market share prices are considerably more volatile than in advanced markets (El-Erian and Kumar, 1995); higher conditional probability of large price changes (De Santis and Imrohoroglu, 1997).

- Selected country cross-section indicators (from Table 1; values preserved exactly as in source):
  - Argentina: Number of Listed Companies 139; Market Capitalization (% of GDP) 31; Value Traded (% of GDP) 4; Turnover Ratio (%) 23; GDP Per Capita ($) 7193
  - Bangladesh: 194; 3; 1; 44; 327
  - Brazil: 497; 27; 13; 46; 3324
  - Chile: 259; 84; 8; 9; 4443
  - China: 723; 20; 25; 156; 793
  - India: 4811; 30; 34; 81; 406
  - Malaysia: 636; 170; 81; 41; 3538
  - South Africa: 604; 147; 35; 31; 3039
- Top five countries by capitalization ratio in sample: Malaysia, South Africa, Chile, Jordan, and Thailand.
- Example: market concentration and liquidity — trading often concentrated in a few stocks even in advanced emerging markets.

### Empirical framework and data definitions
- Dependent variable: market capitalization as a proportion of GDP.
- Key explanatory variables:
  - Income level: log GDP per capita (US$).
  - Banking sector development: domestic credit to private sector (% of GDP) and its square (Credit2).
  - Savings and investment: gross domestic savings (% of GDP); gross domestic investment (% of GDP).
  - Stock market liquidity: value traded (% of GDP).
  - Macroeconomic stability: current inflation; real interest rate.
  - Private capital flows: FDI (% of GDP); net private capital flows (% of GDP).
  - Institutional quality: political risk (ICRG composite, 0–100); Law and Order (0–6); Bureaucratic Quality (0–4); Democratic Accountability (0–6); Corruption (0–6; higher index = lower corruption).
- Estimation approach: dynamic panel GMM estimator (Arellano and Bond), includes one lag of the dependent variable; reports Sargan tests and first- and second-order autocorrelation diagnostics.
- Calderon-Rossell model references and modified dynamic panel specification presented (log and dynamic forms; equation 11 notation preserved).

### Key empirical results — Macroeconomic determinants (highlights from Table 2)
- Model 1 (baseline):
  - Lagged dependent: 0.477 (t = 13.16)∗∗∗
  - Private Credit: 0.197 (t = 2.32)∗∗
  - Value Traded: 0.466 (t = 16.66)∗∗∗
  - Log GDP per capita: 7.231 (t = 3.67)∗∗∗ — "a percentage point increase in GDP per capita increases stock market development by 7.23 percentage points."
  - Credit2 (square): -0.002 (t = -4.87)∗∗∗
  - Investment: 0.441 (t = 2.24)∗∗
  - Inflation: 0.006 (t = 1.61) (not statistically significant)
- Model 2 (including real interest rate): real interest rate negative but not statistically significant (example: -0.014 (t = -0.90)).
- Model 3 (savings instead of investment): savings positive but statistically insignificant; Credit2 remains negative and significant.
- Model 4 (FDI included): FDI positive but statistically insignificant.
- Model 5 (private capital flows included):
  - Capital flows: 0.245 (t = 3.50)∗∗∗ — "a percentage point increase in capital inflows induces a 0.25 percentage points increase in stock market development."
- Diagnostic notes: Sargan tests show large test statistics with [0.000] p-values across models; first-order autocorrelation significant by construction; no evidence of second-order serial correlation in most specifications.

### Key empirical results — Institutional determinants (highlights from Table 3)
- Model 1 (political risk included):
  - Political risk: 0.239 (t = 2.22)∗∗ — "resolution of political risk is important for stock market development."
  - Log GDP per capita: 6.421 (t = 4.09)∗∗∗
  - Private Credit: 0.176 (t = 2.05)∗∗
  - Value traded: 0.470 (t = 16.71)∗∗∗
  - Credit2: -0.002 (t = -4.76)∗∗∗
  - Investment: 0.413 (t = 2.09)∗∗
- Institutional component results (separate specifications):
  - Law and order: 3.742 (t = 3.38)∗∗∗ — positive and significant.
  - Bureaucratic quality: 2.143 (t = 1.68)∗ — positive (weaker significance).
  - Democratic accountability: 1.465 (t = 2.00)∗∗∗ — positive and significant.
  - Corruption: -0.194 (t = -0.22) — negative but statistically insignificant.
- Across institutional models: Log GDP per capita, private credit, value traded, and investment remain positive and significant; Credit2 remains negative and significant.

### South Africa case (JSE) — market trends and panel estimates (selected metrics and Table 4)
- Historical and size indicators:
  - JSE founded in 1887.
  - In 2004: estimated 472 listed companies; market capitalization of US$182,6 billion; average monthly traded value of US$ 6,399 million.
  - JSE Limited: largest exchange in Africa and the 17th largest in the world in terms of market capitalization.
- Market trends (1990–2004):
  - Number of listed companies declined from 732 in 1990 to 403 in 2004.
  - Value traded (% of GDP) rose from about 10 percent in 1990 to roughly 80 percent of GDP by 2004.
  - Turnover ratio: increased from under 10 percent in 1993 to about 80 percent in 2001; fell to about 50 percent in 2004.
  - Capitalization ratio increased from 120 percent of GDP in 1990 to about 180 percent of GDP (text truncated in supplied content).
- JSE structural and regulatory changes: November 1995 Stock Exchanges Control Act; STRATE electronic settlement; 1997 real-time news service; 2001 JSE–SAFEX merger; trading systems replaced with those of the London Stock Exchange; FTSE/JSE Africa Index Series; demutualization in July 2005 (statutory 15 percent shareholding limit).
- South Africa-specific panel estimation (Table 4 highlights):
  - Baseline (Model 1):
    - Lagged dependent: 0.552 (t = 16.74)∗∗∗
    - Private Credit: 0.233 (t = 3.07)∗∗
    - Value traded: 0.476 (t = 16.51)∗∗∗
    - Log GDP per capita: 4.108 (t = 3.05)∗∗∗
    - Credit2: -0.002 (t = -4.80)∗∗∗
    - South Africa dummy (SAdummy): 2.454 (t = 1.45) — positive but statistically insignificant.
  - Interaction effects (testing SA differences):
    - SAcredit (SA dummy × bank credit): 1.847 (t = 2.00)∗∗ — stronger positive effect of banking credit in South Africa.
    - SAcredit2: -0.008 (t = -1.70)∗ — stronger negative curvature of credit square in South Africa.
    - SApolrisk (SA dummy × political risk): 2.630 (t = 4.42)∗∗∗ — political risk resolution particularly important for South Africa.
    - SAflows (SA dummy × private capital flows): 1.347 (t = 3.48)∗∗∗ — private capital flows have a stronger positive effect in South Africa.
- South Africa conclusion: main determinants for emerging markets (banking sector development, private capital flows, income level, political risk, stock market liquidity) also explain South African stock market development; pension fund and insurance industry development helped create a large institutional investor base.

### Summary of substantive findings
- Four principal empirical conclusions:
  - Income level, domestic investment, banking sector development, private capital flows, and stock market liquidity are important determinants of stock market development in emerging markets.
  - Banking sector development and stock market development display a non-monotonic relationship: complementary at early stages, competitive as both develop (positive linear Credit term; negative Credit2 term).
  - Institutional factors (political risk, law and order, democratic accountability, bureaucratic quality) are important determinants; political risk resolution encourages investor confidence and market growth.
  - Determinants identified for emerging markets broadly help explain South Africa’s stock market development; political risk resolution and private capital inflows are especially influential for South Africa.

### Policy implications and recommendations
- Economic growth: policies that foster economic growth should accompany financial liberalization to support stock market development.
- Banking sector development: promote a well-developed banking sector as it supports stock market development at early stages; monitor nonlinearity as competition may arise with deeper credit markets.
- Domestic investment: encourage domestic investment through policy to promote stock market development.
- Stock market liquidity: improve liquidity (value traded) to promote stock market development.
- Institutional quality: strengthen law and order, bureaucratic quality, democratic accountability, and reduce political risk to attract investors and support stock market development.
- Financial liberalization and foreign flows: facilitate transparency and accountability through liberalization policies to lower adverse selection and moral hazard; recognize foreign capital flows as a significant driver of emerging market stock market growth.

*Source: IMF working paper _wp0832 (2004) — content as supplied.*

### References..............................................................................................................

### References

### Overview and scope
- The document addresses the surge in world stock markets and the prominent role of emerging markets in that boom.
- It studies the macroeconomic and institutional determinants of stock market development in emerging economies using a panel dataset of 42 countries for the period 1990–2004.
- A key indicator of stock market development highlighted is the capitalization ratio (market capitalization as a proportion of GDP).
- Empirical and theoretical literature referenced includes Levine and Zervos (1998), which finds that stock market development plays an important role in predicting future economic growth.

### Notable quantitative observations from the text
- The capitalization ratio in leading developing economies increased dramatically during the 1980s and the 1990s, with examples such as Chile where the ratio climbed from 10 to over 84 percent of GDP over two decades.
- The analysis covers the period 1990–2004 (as reflected in tables and figures listings).
- The empirical sample consists of 42 countries.

### Tables and figures included (as listed)
- Tables:
  - 1. Indicators of Stock Market Development, 1990–2004
  - 2. Macroeconomic Factors and Stock Market Development
  - 3. Institutional Determinants of Stock Market Development
  - 4. South Africa: The Determinants of Stock Market Development
- Figures:
  - 1. Stock Market Development in Emerging Markets, 1990–2004
  - 3. South Africa: Indicators of Stock Market Development, 1990–2004

### Key themes emphasized
- Rapid expansion of stock markets in emerging economies over recent decades.
- The potential causal link from stock market development to economic growth supported by theoretical work and empirical findings.
- Investigation of both macroeconomic factors and institutional determinants as drivers of stock market development.
- A case focus on South Africa for detailed determinants and indicators of stock market development.

*Source: _wp0832 - References.*

### 2004. Specifically, the paper examines the impact of domestic savings, investment, stock

### _wp0832 - 2004. Specifically, the paper examines the impact of domestic savings, investment, stock

### Objectives and scope
- Examines the impact of domestic savings, investment, stock market liquidity, macroeconomic stability, private capital flows, banking sector development, and institutional quality on stock market development.
- Uses market capitalization as a percentage of GDP to measure stock market development.
- Investigates whether the positive relationship between banking sector development and stock market development observed in prior work (Demirguc-Kunt and Levine, 1996) holds in emerging economies.
- Analyzes the impact of institutional quality (including political risk) on stock market development and the implications for financial market integration.

### Key findings on institutional quality and political risk
- Political risk and institutional quality are strongly associated with growth in stock market capitalization.
- Good quality institutions (resolution of political risk) can be an important factor in the development of stock markets in emerging markets.
- Political risk strongly affects the local cost of equity and is an important factor in investment decisions.

### Theoretical and empirical considerations: stock markets and economic growth
- Theoretical channels by which stock markets can accelerate economic growth:
  - Provide a boost to domestic savings and increase the quantity and quality of investment.
  - Allow growing companies to raise capital at lower cost.
  - Reduce dependence on bank financing and lower risk of credit crunch.
  - Enable long-term investment to be financed by short-term funds (Baumol, 1965).
  - Improve efficiency through takeover mechanisms and market for corporate control.
- Criticisms and limitations:
  - Pricing and takeover mechanisms can induce short termism and reduce long-term investment in firm-specific human capital (Singh, 1997; Singh, 1971).
  - Very liquid stock markets may encourage investor myopia and weaken investor commitment to corporate control (Bhide, 1994).
  - Limitations are magnified in emerging markets due to weaker regulatory institutions and greater macroeconomic volatility.
- Empirical evidence:
  - Levine and Zervos (1998): various measures of stock market activity are positively correlated with measures of real economic growth across countries, particularly strong for developing countries.
  - Durham (2002): positive impact of stock market development on growth depends on inclusion of higher income countries; stronger impact for higher GDP per capita, lower country credit risk, and higher legal development.
  - García and Liu (1999): GDP growth, domestic investment, and financial intermediary sector development are important determinants.
  - Yartey (2007): a percentage point increase in financial intermediary sector development tends to increase stock market development in Africa by 0.6 points, controlling for macroeconomic stability, economic development, and quality of legal and political institutions.
  - El-Wassal (2005): economic growth, financial liberalization policies, and foreign portfolio investments were leading factors of emerging stock markets growth.

### Stylized facts for emerging market stock markets (1990–2004)
- Market capitalization of emerging market countries grew from less than $2 trillion in 1995 to about $5 trillion in 2005.
- Emerging markets account for more than 12 percent of world market capitalization (Standard and Poor, 2005).
- In the paper’s sample of emerging markets, market capitalization as a percentage of GDP increased from about 20 percent in 1990 to about 40 percent in 2004 (based on averages of a sample of 42 emerging market countries).
- Market concentration and liquidity:
  - Even in advanced emerging markets, trading often occurs in only a few stocks that account for a considerable part of total market capitalization.
  - Less active stocks suffer from informational and disclosure deficiencies and weak transparency.
- Net equity flows to emerging markets have grown to roughly $200 billion per year.
- Equity flows accounted for 80 percent of total external financing to developing nations during 1999–2003, compared with 60 percent during 1993–98 (Global Development Finance, 2005).
- Share price behavior:
  - Share prices in emerging markets are considerably more volatile than in advanced markets (El-Erian and Kumar, 1995).
  - Emerging financial markets exhibit a higher conditional probability of large price changes than developed stock markets (De Santis and Imrohoroglu, 1997).

### Cross-country indicators and notable statistics (selected from Table 1 and text)
- Sample coverage and measures:
  - Indicators include Number of Listed Companies; Market Capitalization (% of GDP); Value Traded (% of GDP); Turnover Ratio (%); GDP Per Capita ($).
  - Table 1 covers numerous emerging market countries (examples and selected entries below preserve numeric values exactly as in source):
    - Argentina: Number of Listed Companies 139; Market Capitalization (% of GDP) 31; Value Traded (% of GDP) 4; Turnover Ratio (%) 23; GDP Per Capita ($) 7193
    - Bangladesh: 194; 3; 1; 44; 327
    - Brazil: 497; 27; 13; 46; 3324
    - Chile: 259; 84; 8; 9; 4443
    - China: 723; 20; 25; 156; 793
    - India: 4811; 30; 34; 81; 406
    - Malaysia: 636; 170; 81; 41; 3538
    - South Africa: 604; 147; 35; 31; 3039
    - United States comparison (text): total stock market capitalization of around $20 trillion, or 30 times greater than that of South Korea.
  - Top five countries by capitalization ratio: Malaysia, South Africa, Chile, Jordan, and Thailand.
  - Lowest capitalization ratios occur in countries such as Bulgaria and Venezuela.

### Role of financial liberalization and foreign flows
- Financial liberalization promotes transparency and accountability, reducing adverse selection and moral hazard and lowering borrowing costs in stock markets (Mishkin, 2001).
- Foreign capital flows and financial liberalization have been leading factors in emerging stock market growth (El-Wassal, 2005).
- Equity flows became a dominant component of external financing for developing nations in the late 1990s and early 2000s.

### South Africa: Johannesburg Stock Exchange (JSE) — Market development
- Historical and size indicators:
  - Founded in 1887.
  - In 2004, the JSE had an estimated 472 listed companies and a market capitalization of US$182,6 billion as well as an average monthly traded value of US$ 6,399 million.
  - JSE Limited is the largest exchange in Africa and the 17th largest in the world in terms of market capitalization.
- Structural and technological changes:
  - November 1995: Stock Exchanges Control Act changed trading modalities, opened the door to non-South Africans, and allowed brokers to buy and sell stock for their own account.
  - Trading automated through STRATE (Share Transactions Totally Electronic).
  - 1997: real-time stock exchange news service launched; JSE listing requirements require listed companies to disseminate corporate news or price sensitive information on the service prior to other media.
  - 2001: JSE merged with the South African Futures Exchange (SAFEX).
  - Trading and information systems replaced with those of the London Stock Exchange; trading engine and dissemination feed-handler hosted in London; dissemination to more than 104,000 trading terminals.
  - Introduction of the FTSE/JSE Africa Index Series aligning classification with FTSE Global Classification system.
- Regulatory and organizational developments:
  - Bond market separated from the JSE to the Bond Exchange of South Africa and is licensed under the Financial Markets Control Act.
  - New capital adequacy requirements for broking firms based on European Union requirements; separation of clients' funds from those of brokers.
  - Self-regulation philosophy practiced; JSE acts as regulator of its members and enforces JSE Listings Requirements.
  - Demutualization: the exchange was demutualized in July 2005 after 118 years as a mutual entity. JSE Limited became a public, unlisted company with a statutory prudential limitation of a 15 percent shareholding by any shareholder. Ownership of a JSE share is no longer a requirement for membership.
- Main characteristics and metrics:
  - Paper uses capitalization ratio and number of listed companies to measure JSE size.
  - Capitalization ratio increased from 120 percent of GDP in 1990 to about 180 percent of GDP in [text truncated at end of supplied content].

*Italicized source: IMF working paper _wp0832 (2004) — content as supplied.*

### 2004. The high growth of the capitalization ratio coincided with a reduction of the number of

### _wp0832 - 2004. The high growth of the capitalization ratio coincided with a reduction of the number of

### Market trends and liquidity (South Africa, 1990–2004)
- Number of listed companies on the JSE declined from 732 in 1990 to 403 in 2004.
- Value traded (percent of GDP) increased from about 10 percent of GDP in 1990 to roughly 80 percent of GDP by 2004.
- Turnover ratio:
  - increased from under 10 percent in 1993 to about 80 percent in 2001;
  - fell to about 50 percent in 2004.

### Calderon-Rossell model and modified framework (methodology)
- Market capitalization defined as PV where:
  - Y is market capitalization in local currency;
  - P is the number of listed companies;
  - V is the local currency average price of listed companies.
- Reduced-form relationships (log specifications):
  - Log T = α1 Log G + α2 Log Y (equation structure presented)
  - Log T = α1 Log G + α2 Log V
  - Log T = π1 Log G + π2 Log P
- Modified Calderon-Rossell regression (dynamic panel):
  - ititititiit PMYYεπβδα++++= −1 (equation 11)
  - Y = stock market capitalization relative to GDP (dependent variable)
  - M = matrix of macroeconomic variables: GDP per capita, credit to private sector (% of GDP) and its square, gross domestic investment (% of GDP), value traded (% of GDP), private capital flows (% of GDP), FDI (% of GDP), current inflation, real interest rate, gross domestic savings.
  - P = institutional quality measures: political risk, corruption, law and order, democratic accountability, bureaucratic quality.
  - Includes one lag of the dependent variable.

### Data definitions and expected signs
- Dependent variable: market capitalization as a proportion of GDP.
- Income level: log GDP per capita (US$).
- Banking sector development: domestic credit to private sector (% of GDP); include square to capture nonlinearity (expected positive for credit, negative for credit2 at high levels).
- Savings and investment: gross domestic savings (% of GDP); gross domestic investment (% of GDP).
- Stock market liquidity: value traded (% of GDP).
- Macroeconomic stability: current inflation and real interest rate.
- Private capital flows: FDI (% of GDP) and net private capital flows (% of GDP).
- Institutional quality: political risk (ICRG composite, 0–100), and components:
  - Law and Order (0–6)
  - Bureaucratic Quality (0–4)
  - Democratic Accountability (0–6)
  - Corruption (0–6; higher index = lower corruption)

### Estimation approach
- Dynamic panel GMM estimator (Arellano and Bond, one-step and two-step) used to address endogeneity and country fixed effects.
- Specification tests reported: Sargan test of over-identifying restrictions; tests for first- and second-order autocorrelation in first differences.

### Key empirical results — Macroeconomic determinants (Table 2 highlights)
- Model 1 (baseline):
  - Lagged dependent: 0.477 (t = 13.16)∗∗∗
  - Private Credit: 0.197 (t = 2.32)∗∗
  - Value Traded: 0.466 (t = 16.66)∗∗∗
  - Log GDP per capita: 7.231 (t = 3.67)∗∗∗ — "a percentage point increase in GDP per capita increases stock market development by 7.23 percentage points."
  - Credit2 (square): -0.002 (t = -4.87)∗∗∗
  - Investment: 0.441 (t = 2.24)∗∗
  - Inflation: 0.006 (t = 1.61) (not statistically significant)
- Model 2 (real interest rate included): real interest rate negative but not statistically significant (example: -0.014 (t = -0.90) in one specification).
- Model 3 (savings instead of investment): savings positive but statistically insignificant; Credit2 remains negative and significant.
- Model 4 (FDI included): FDI positive but statistically insignificant.
- Model 5 (private capital flows included):
  - Capital flows: 0.245 (t = 3.50)∗∗∗ — "a percentage point increase in capital inflows induces a 0.25 percentage points increase in stock market development."
- Sargan tests in Table 2 show large test statistics with [0.000] p-values across models; first-order autocorrelation significant by construction; second-order autocorrelation statistics generally show no evidence of second-order serial correlation (p-values indicating failure to reject null of no second-order correlation).

### Key empirical results — Institutional determinants (Table 3 highlights)
- Model 1 (political risk included):
  - Political risk: 0.239 (t = 2.22)∗∗ — "resolution of political risk is important for stock market development."
  - Log GDP per capita: 6.421 (t = 4.09)∗∗∗
  - Private Credit: 0.176 (t = 2.05)∗∗
  - Value traded: 0.470 (t = 16.71)∗∗∗
  - Credit2: -0.002 (t = -4.76)∗∗∗
  - Investment: 0.413 (t = 2.09)∗∗
- Component institutional results:
  - Law and order: 3.742 (t = 3.38)∗∗∗ (Model 2) — positive and significant.
  - Bureaucratic quality: 2.143 (t = 1.68)∗ (Model 3) — positive and significant at weaker level.
  - Democratic accountability: 1.465 (t = 2.00)∗∗∗ (Model 4) — positive and significant.
  - Corruption: -0.194 (t = -0.22) (Model 5) — negative but statistically insignificant.
- Across institutional models:
  - Log GDP per capita, private credit, value traded, and investment remain positive and significant.
  - Credit2 remains negative and significant.
  - Sargan and autocorrelation diagnostics reported similarly as in macro models.

### South Africa-specific analysis (Table 4 highlights)
- Baseline (Model 1):
  - Lagged dependent: 0.552 (t = 16.74)∗∗∗
  - Private Credit: 0.233 (t = 3.07)∗∗
  - Value traded: 0.476 (t = 16.51)∗∗∗
  - Log GDP per capita: 4.108 (t = 3.05)∗∗∗
  - Credit2: -0.002 (t = -4.80)∗∗∗
  - South Africa dummy (SAdummy): 2.454 (t = 1.45) — positive but statistically insignificant.
- Interaction findings (testing whether South Africa differs from emerging market norms):
  - SAcredit (interaction of SA dummy and bank credit): 1.847 (t = 2.00)∗∗ — banking sector credit has a stronger positive effect in South Africa.
  - SAcredit2: -0.008 (t = -1.70)∗ — interaction suggests stronger negative curvature of credit square in South Africa.
  - SApolrisk (interaction of SA dummy and political risk): 2.630 (t = 4.42)∗∗∗ — political risk resolution particularly important for South Africa.
  - SAflows (interaction of SA dummy and private capital flows): 1.347 (t = 3.48)∗∗∗ — private capital flows have a stronger positive effect in South Africa.
- Conclusion from South Africa analysis:
  - Main determinants identified for emerging markets (banking sector development, private capital flows, income level, political risk, stock market liquidity) also apply to South Africa.
  - Political risk resolution and private capital inflows are especially influential for South African stock market development.

### Summary of substantive findings
- Market-size and liquidity measures rose sharply in South Africa 1990–2004 even as the number of listed companies fell.
- Macroeconomic determinants with robust positive effects on stock market capitalization (% of GDP):
  - Log GDP per capita (elastic and positive across models: e.g., 7.231; 6.421; 4.108 depending on specification).
  - Private credit to the private sector (positive linear term; credit2 negative → non-monotonic/quadratic relationship).
  - Value traded (% of GDP) (coefficients around 0.466–0.508 across models).
  - Gross domestic investment (positive in many specifications; e.g., 0.441 in Model 1).
  - Private capital flows (0.245 in Table 2 Model 5; SA interaction shows stronger effect).
- Institutional determinants matter:
  - Political risk composite: positive and significant (0.239 in Table 3 Model 1).
  - Law and order, bureaucratic quality, democratic accountability: positive contributions; corruption not significant in the specification reported.
- Banking sector development displays a non-monotonic relationship:
  - Positive marginal effects at low-to-moderate levels of private credit but negative coefficient on Credit2 (-0.002) indicates substitutability between banks and stock markets at high credit development.

*Source: IMF staff working paper content (pages and tables excerpted from the provided PDF content).*

### 2004. The paper also analyzed whether the main factors explaining the development of the stock

### _wp0832 - 2004. The paper also analyzed whether the main factors explaining the development of the stock

### Empirical findings
- The empirical analysis found four interesting results:
  - First: income level, domestic investment, banking sector development, private capital flows, and stock market liquidity are important determinants of stock market development in emerging markets.
  - Second: the relationship between banking sector development and stock market development in emerging market countries is non-monotonic. At early stages the banking sector is a complement to the stock market in financing investment; as both develop they begin to compete as vehicles for financing investment.
  - Third: institutional factors such as political risk, law and order, democratic accountability and bureaucratic quality are important determinants of stock market development in emerging markets; resolving political risk can encourage investor confidence and propel stock market growth.
  - Fourth: the main factors explaining stock market development in emerging market countries can also help understand the determinants of stock market development in South Africa.

- South Africa-specific observation:
  - "In the case of South Africa, the early development of the pension fund and insurance industries played a great role in developing a large institutional investor base, which probably explains the high level of stock market development."

- Consistency with prior literature:
  - Garcia and Liu (1999) found income level and financial intermediary development have positive impacts on stock market development in Latin American and Asian countries.
  - Demirguc-Kunt and Levine (1996) found most stock market indicators are highly correlated with financial intermediary development; countries with well-developed stock markets tend to have well-developed financial intermediaries.

### Policy implications and recommendations
- Economic growth:
  - Economic growth plays an important role in stock market development; initiate policies to foster growth and development as countries liberalize their financial systems.
- Banking sector development:
  - Development of a well-developed banking sector is important for stock market development in emerging markets. At early stages the stock market complements the banking sector; as markets mature they may compete.
  - Support services from the banking system contribute significantly to stock market development.
- Domestic investment:
  - Domestic investment is an important determinant; encourage investment through appropriate policies to promote stock market development.
- Stock market liquidity:
  - Stock market liquidity has a positive effect on stock market development; improving liquidity can promote development.
- Institutional quality:
  - Good quality institutions reduce political risk; development of law and order, efficient bureaucracy, and democratic accountability is crucial for stock market development in emerging economies.

### Key references cited in the unit (selective, as they appear in text)
- Garcia and Liu (1999)
- Demirguc-Kunt and Levine (1996)
- Additional literature cited includes works by Arrelano and Bond (1991), Bekaert (1996), Bhide (1994), Demirguc-Kunt and Maksimovic (1998), Levine and Zervos (1998), and others as listed in the source.

*Source: _wp0832 - 2004. The paper also analyzed whether the main factors explaining the development of the stock (PDF chapter/section).*

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