Abstract
This paper considers the effect of financial liberalisation on access to investment finance using firm level data covering 48 developing and transition countries. An index is presented which measures financial market liberalisation along the following policy dimensions: directed lending, credit controls and reserve requirements, state control of banking, openness of international financial flows, banking market entry, prudential regulation and supervision and securities market development. Categorising firms as financially constrained across four measures, the results indicate that financial liberalisation is robustly associated with a reduction in the probability of being credit constrained, with the effect strongest for young, domestic private small and medium sized enterprises. For Sub-Saharan Africa, the results indicate that financial liberalisation actually increases financing constraints for firms. This may help explain the stylised fact that despite a commitment to financial reform, the predicted growth benefits have not been realised in this region.
Acknowledgements
Many thanks to the staff at UNU-WIDER and the participants at the UNU-WIDER seminar series for helpful comments and suggestions. Particular thanks go to Carol Newman, Finn Tarp, and John Rand for details suggestions and guidance. Thanks also go to Robert Ryan, James Thurlow, Yongfu Huang, Miguel Nino-Zarazua, Petra Gerlach-Kristen and Imed Drine. Conor O’Toole would like to thank Teagasc, the Irish agri-food development authority for continued financial support under the Walsh Fellowship scheme.
Annex 1: Financial Liberalisation Index
The index used in this paper covers the following issues: credit controls, directed lending and excessive reserve requirements, barriers to entry, restrictions on international financial flows, state control of banking, prudential regulatory and supervisory policy and securities market policies. Barth et al. (2008) database does not contain data on interest rate controls so this dimension is not covered. We take the 2007 wave of the Barth et al. (2008) data to build the index which, like Abiad et al. (2010), is increasing in financial liberalisation. The selection of variables and the scores assigned to each variable is outlined in Abiad et al. (2010). Readers are encouraged to consult this work, as well as Abiad and Mody (2005), for a full discussion of the reasons for selecting the seven dimensions and scoring.
The variables used for each aspect of the index are:
Credit controls and excessive reserve requirements is the simple average of:
Restrictive reserves
0 if reserves are more than 20%
1 if reserves are between 20% and 10%
2 if reserves are <10%
Activities restrictions
The ability of banks to engage in insurance activities, real estate activities and own non-financial corporations is rated on a scale of 1–4 increasing in prohibition. These three variables are summed and assigned the following scores:
Sum is >7, at least two are prohibited so system is restricted – score 0
Sum is 7>3, partially liberalised – score 1
Sum is <3, Liberalised – score 2
Entry barriers is the simple average of:
Fraction of all entries denied
0 if denials are more than 50%
1 if denials are between 20% and 50%
2 if denials are <20%
Fraction of foreign entries denied
0 if denials are more than 50%
1 if denials are between 20% and 50%
2 if denials are <20%
Prevention of foreign entry through subsidiaries, acquisitions, branches and joint ventures
0 if at least three are prevented – restricted system
1 if one or two are prevented – partially liberalised
2 if non of the above are prevented – liberalised
State control:
Percentage ownership of banking assets by the state:
0 if ownership is more than 50%
1 if ownership is between 20% and 50%
2 if ownership is <20%
International financial activities:
Lending activities by domestic banks overseas:
0 if no
1 if yes
Prudential supervision and regulatory policy (All definitions as in Barth et al. 2008):
Independence of official supervisor
Power of official supervisor
Securities market development
0 if financial institutions are restricted or prohibited from engaging in securities market activities
1 if financial institutions are permitted to engage in securities market activities
2 if financial institutions are unrestricted in their engagement in securities market activities.
The overall index is the sum of the above categories.
Annex 2: Data and Results
Table 10 presents a detailed outline of the number of observations per country as well as the country values of the financial liberalisation index and “General Constrained” measure.
Country Details: Observations, C1 and FL Index.
| Sub-Saharan Africa | Europe and Central Asia | ||||||
| Benin | 147 | 0.14 | 3.50 | Azerbaijan | 340 | 0.21 | 3.67 |
| Botswana | 341 | 0.14 | 3.50 | Belarus | 229 | 0.07 | 2.00 |
| BurkinaFaso | 517 | 0.22 | 1.50 | Bulgaria | 1282 | 0.12 | 7.00 |
| Burundi | 267 | 0.35 | 6.00 | Croatia | 616 | 0.15 | 6.50 |
| Cameroon | 530 | 0.27 | 3.50 | Czech Republic | 238 | 0.03 | 6.67 |
| Gabon | 170 | 0.24 | 3.50 | Estonia | 272 | 0.03 | 5.00 |
| Gambia | 170 | 0.35 | 2.00 | Hungary | 284 | 0.04 | 7.50 |
| Ghana | 491 | 0.87 | 3.67 | Latvia | 265 | 0.06 | 6.00 |
| Guinea | 219 | 0.65 | 7.50 | Lithuania | 270 | 0.05 | 7.50 |
| Ivory Coast | 524 | 0.57 | 2.50 | Moldova | 356 | 0.05 | 6.67 |
| Kenya | 651 | 0.17 | 4.50 | Romania | 515 | 0.08 | 5.00 |
| Malawi | 145 | 0.17 | 3.17 | Ukraine | 812 | 0.08 | 7.00 |
| Mali | 489 | 0.93 | 3.50 | South and Central America | |||
| Mozambique | 477 | 0.91 | 5.00 | Argentina | 1056 | 0.15 | 6.00 |
| Namibia | 327 | 0.13 | 3.50 | Bolivia | 607 | 0.14 | 4.50 |
| Niger | 179 | 0.16 | 1.50 | Chile | 1006 | 0.06 | 5.83 |
| Nigeria | 1883 | 0.45 | 5.00 | Colombia | 996 | 0.11 | 5.50 |
| Senegal | 506 | 0.89 | 3.50 | ElSalvador | 691 | 0.11 | 4.50 |
| South Africa | 937 | 0.81 | 5.50 | Guatemala | 517 | 0.07 | 4.50 |
| Swaziland | 297 | 0.18 | 5.00 | Honduras | 430 | 0.11 | 5.67 |
| Togo | 151 | 0.34 | 1.50 | Mexico | 1381 | 0.13 | 4.50 |
| Uganda | 552 | 0.22 | 5.17 | Nicaragua | 474 | 0.10 | 8.00 |
| Asia Broad | Panama | 597 | 0.05 | 7.00 | |||
| Bangladesh | 1496 | 0.00 | 6.00 | ||||
| Bhutan | 248 | 0.21 | 3.50 | ||||
| Indonesia | 1397 | 0.30 | 5.50 | ||||
| Samoa | 95 | 0.08 | 3.00 | ||||
The results in the table below present a full evaluation of the effects by region.
IV Probit Marginal Effects for Financial Liberalisation in Other Regions.
| C(n) | General constrained | New entrants | Active investors | Deterred investors |
|---|---|---|---|---|
| SS Africa | –0.729 | –0.327 | –0.545 | –0.613 |
| (0.758) | (0.439) | (0.717) | (0.709) | |
| LAC | –1.558 | –0.832 | –1.700 | –0.927 |
| (1.432) | (0.771) | (1.358) | (1.208) | |
| Asia broad | –2.285 | 0.423 | –0.944 | –1.560 |
| (2.718) | (1.419) | (2.617) | (2.257) | |
| Fin Lib Index | –0.265** | –0.154** | –0.259** | –0.229** |
| (0.126) | (0.069) | (0.117) | (0.109) | |
| Fin Lib Index × SS Africa | 0.352** | 0.207*** | 0.344*** | 0.322*** |
| (0.141) | (0.077) | (0.130) | (0.122) | |
| Fin Lib Index × LAC | 0.282 | 0.120 | 0.304* | 0.219 |
| (0.182) | (0.100) | (0.173) | (0.161) | |
| Fin Lib Index × Asia broad | 0.446 | –0.102 | 0.230 | 0.393 |
| (0.482) | (0.257) | (0.470) | (0.408) | |
| N | 26,440 | 26,440 | 26,440 | 26,440 |
| Sector controls | Yes | Yes | Yes | Yes |
| Year controls | Yes | Yes | Yes | Yes |
Notes: (1) *p<0.10, **p<0.05, ***p<0.01.
(2) All estimates are robust to heteroscedasticity and clustered at the country level.
(3) Country controls: As per main model.
(4) Firm controls include firm age, size, ownership, publicly listed and direct trade.
(5) ME for interaction estimated using Ai and Norton (2003).
Source: Author’s calculations using estimation sample.
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