Local Capital Market Research Articles

The EBRD's legal and regulatory assessment – what limits development of local capital markets?

This article describes legal and regulatory impediments in some of the European Bank for Reconstruction and Development's (EBRD) countries of operations to the development of vibrant local capital markets, as identified within the EBRD Local Currency and Local Capital Markets Development Initiative. It also describes how such impediments could be addressed.

Do Local Capital Market Conditions Affect Consumers' Borrowing Decisions?

This paper uses detailed data from an online peer-to-peer lending intermediary to test whether local access to finance affects consumers’ willingness to pay for loans. After controlling for local economic conditions and borrower credit quality, we find that borrowers who reside in areas with good access to bank finance request loans with lower interest rates. This effect is stronger for borrowers with poor credit and those seeking small loans, suggesting that local access to finance is more important for marginal borrowers. Overall, our findings shed light on how consumers substitute between alternative sources of finance.

The Role of Relative Availability of Bond and Bank Financing: A Measure of Debt Inflexibility

We study how the relative availability of bond and bank financing supply affects the firm’s ability to borrow and to use its leverage to buffer shocks. We define a measure that proxies for the regional borrowing inflexibility in the availability of bank and bond financing: “debt inflexibility”. Debt inflexibility tilts the financial structure towards equity, increasing SEOs, reducing debt issuances and lowering leverage. It proxies for a particular type of financial constraint that is more related to the local capital market to which the firm belongs, than to the characteristics of the firm itself. Debt inflexibility increases the sensitivity of cash holdings and investment to cash flows, reduces dividend payment andmakes the firm more likely to pay equity in mergers and acquisitions.

Chile and the Tequila Effect

This case fits into courses on macroeconomics, international finance, and capital markets. It raises the issue of privatization of the social-security system and its impact on the economy and local capital market.

Efficiency of Microfinance Institutions: A Data Envelopment Analysis

This study examines the cost efficiency of 39 microfinance institutions across Africa, Asia and the Latin America using non-parametric data envelopment analysis. Our findings show non-governmental microfinance institutions particularly; under production approach, are the most efficient and this result is consistent with their fulfillment of dual objectives: alleviating poverty and simultaneously achieving financial sustainability. However, bank-microfinance institutions also outperform in the measure of efficiency under intermediation approach. This result reflects that banks are the financial intermediaries and have access to local capital market. It may be possible that bank-microfinance institutions may outperform the non-governmental microfinance institutions in the long run.

Stocks, Bonds and Debt Imbalance: The Role of Relative Availability of Bond and Bank Financing

We study how the relative availability of bond and bank financing supply affects the firm's ability to use its leverage to buffer shocks, impacting the firm's stock and bond returns. We define a measure that proxies for the regional imbalance in the availability of bank and bond financing. We call this measure Debt It proxies for a particular type of financial constraint that is more related to the local capital market to which the firm belongs, than to the characteristics of the firm itself. We show that Imbalance tilts the financial structure towards equity, increasing SEOs and lowering leverage. Firms characterized by higher debt imbalance also act as more financially constrained. Higher imbalance increases the sensitivity of cash holdings to cash flows, reduces dividend payment and makes the firm more likely to pay equity in mergers and acquisitions. This has important price implications. Imbalance, by constraining the investment of the firm, keeps the firm's Q above its marginal value and induces the firm to select higher value investments. Firms characterized by higher Imbalance have higher stock beta and idiosyncratic volatility. However, Imbalance is not a separate source of uncertainty, but merely increases the sensitivity of the firm's stock to market and idiosyncratic shocks. The bonds of firms characterized by higher Imbalance are more subject to Treasury yield shocks. The higher the Imbalance, the more a market shock will impact the bond yield and credit spread of the firm. A natural experiment confirms our story: the downgrade of GM and Ford bonds in 2005. We show that the contagion effect of the downgrade has affected more severly the bonds that are characterized by higher Imbalance.

The Monopoly Power of Multinational Enterprises in the Service Sector of a Developing Country

This paper draws attention to the implications of the foreign direct investment (FDI) in the presence of monopoly power of multinational enterprises (MNEs) in the industries that are natural monopolies of a developing host country. We also take into account the MNEs' behavior that relies on the local capital market in order to finance their FDI. In a simple general model, we show that these firms use their advanced technology to lure local resources to the industries under their control away from the industries under the control of indigenous firms. As a result, the MNEs are likely to prosper from their activities at the expense of indigenous firms. This reduces employment and leads to a fall in real national income of the host country. It is further shown that a long-run expansion of the indigenous firms may be stalled by the monopoly power of MNEs which impedes the allocative efficiency of relative price and hinders local resources from adjusting to factor rewards.

Capital financing behaviour: evidence from firms listed on the Nairobi Stock Exchange

This study investigates the determinants of capital structure for a sample of 22 firms listed on the Nairobi Stock Exchange during the period 1991–1999. Reduced form equations derived from the static trade-off model and the pecking order hypothesis are estimated and tested using panel data techniques. The results show that a pecking order model with an adjustment process cannot be rejected. Specifically, it is found that the main determinants of capital financing behaviour consist of information asymmetries, non-debt tax shields and local capital market infrastructure.

Stock Exchange Alliances in Organization of Islamic Conferences (Oic) Countries

This paper examines the feasibility and economic benefits of stock exchanges alliances among OIC countries. Despite common Islamic culture, OIC local capital market conditions are heterogeneous depending on legal jurisdictions, income level and the maturity of stock market development. Therefore, in this paper, we suggest a set of internationally acceptable standards that aim to provide guidance for the development and implementation of policy irrespective of local differences so that they can form the basis for the development of sound stock exchanges in OIC countries. For the future development of OIC stock exchanges, we propose a bifurcated or two-tier system for blue-chips and small / medium-sized firms. That is, although small and locally operating firms will list shares at local exchanges, larger firms will rely on regional financial centers within Asian, Europe and MENA regions in the long term or a pan-OIC exchange irrespective of where this market will be located in OIC countries.

Consistency and controversy in corporate financing practices

PurposeThe main aim of this paper is to report on a comprehensive survey of corporate financing decision‐making process in Sri Lankan listed companies and to compare these results with those of similar studies conducted in developed markets.Design/methodology/approachThe study was based on a survey questionnaire distributed among the chief executive officers (CEOs) of companies listed on the Colombo Stock Exchange, with the content of the questionnaire being based upon a review of theoretical and empirical literature in the field of finance.FindingsThe results demonstrate an adherence to a financial hierarchy, which appears to be the dominant financial policy among listed Sri Lankan companies. Corporate financing decisions seem to be influenced mostly by interest and tax considerations, while lesser weight is accorded to financial flexibility in determining the amount of funds to be raised externally through debt contracts. The evidence largely supports the propositions of the pecking order model, but also confirms some predictions found in static trade‐off theory.Practical implicationsSome of the most striking implications of the analysis relate to the under‐development of the local capital market, and the apparent need for an efficient financial system that spurs economic growth. An efficient capital market will in turn ensure that capital will be more easily channeled into financing investments.Originality/valueThis paper highlights how and why the determinants of capital structure decisions reported for developed capital markets may differ from those existing in transitional or emerging economies.

African capital markets and real sector investment

Many African capital markets find the lack of an efficiently organized capital market a serious obstacle to the efficient use of their savings, and thus to their overall economic development. To improve the situation, this paper suggests the following policy recommendations: removal of impediments to capital market development, improvement of the financial system infrastructure for efficient trading activities, sound economic policies that stabilize the exchange rate and prices to help attract foreign investors, increased integration of the local capital market with the world capital markets, encouragement of family-owned firms to go public and, most importantly, liberalization of international capital flows. The study also proposes ‘privatization’ and ‘currency union’ as enhancers of capital mobilization for real sector investment in Africa. Copyright © 2005 John Wiley & Sons, Ltd.

Does It Pay to Implement a Full-Scale EVA Management System?
 Evidence from Brazilian Companies

The goal of this study is to compare and contrast the market performance of Brazilian companies that have implemented a full scale EVA financial management system under Stern Stewart & Co. guidance with that of the broad national stock market index, the Ibovespa index and also a comparison against a portfolio of comparable companies. In the US, several academic papers have been published on this matter, showing the better performance of companies that have adopted the EVA system against a benchmark performance, usually the S&P 500, a group of peer companies in the same industry or an industry-specific index. In one of these studies, Prof. Robert Kleinman, from Oakland University, shows that the stock performance of Stern Stewart's EVA companies is 9% per year better, on average, than their industry peers. Moreover, he found that substantial improvements in EBITDA and operating margins, faster asset turns and stronger cash flow generation are the drivers of the superior performance. In another much cited paper, Wallace (1997) attests the superior operating performance of companies that have an EVA metric system linked with their incentive compensation schemes. This is the first attempt ever to carry out such empirical study in Brazil and, despite the relatively small number of listed companies in the sample, the conclusions are robust and worth further investigation. The major findings show the better performance of the portfolio containing EVA companies (EVA Index) against the market index and against the comparables portfolio both on a Total Return-only basis and on a Risk-Adjusted Performance basis (we are using Leah and Franco Modigliani's Risk-Adjusted Performance Measure definition - from now on called RAP). It is important to mention that the results should not be interpreted as a recommendation of any particular trading strategy based on picking companies that implement the EVA Financial Management System. Rather, we believe that the results suggest that the local capital market starts to differentiate and to look positively to companies that implement EVA, which may also be viewed as a proxy for an improved Internal Corporate Governance System.

A Multinational Perspective on Capital Structure Choice and Internal Capital Markets

This paper examines the impact of local tax rates and capital market conditions on the level and composition of borrowing by foreign affiliates of American multinational corporations. The evidence indicates that 10 percent higher local tax rates are associated with 2.8 percent higher debt/asset ratios of American-owned affiliates, and that borrowing from related parties is particularly sensitive to tax rates. Borrowing by American affiliates responds to local inflation and political risks, and is more costly in countries with underdeveloped capital markets and those providing weak legal protections for creditors. Affiliates in environments where external borrowing is costly borrow less from unrelated parties: One percent higher interest rates are associated with 1.4 to 2.0 percent less external debt as a fraction of assets. Instrumental variables analysis reveals that affiliates substitute loans from parent companies for between half and three quarters of the reduced borrowing from unrelated parties stemming from adverse local capital market conditions. These patterns suggest that multinational firms are able to structure their finances in response to tax and capital market conditions, thereby creating opportunities not available to many of their local competitors.

CONDITIONS FOR SUCCESSFUL PRIVATELY INITIATED INFRASTRUCTURE PROJECTS.

In South East Asia, an increasing number of privately initiated build-operate-transfer (BOT) infrastructure projects are in progress. This paper identifies the conditions which are likely to lead to successful private infrastructure BOT projects; it is based on recent experience with three such projects in Malaysia. There are two types of schemes initiated by the private sector: (1) those already identified by the Government, but not proceeding due to lack of funds or feasible technical solution; and (2) those meeting previously unidentified needs. The most important stage in the total development of a BOT proposal is the correct identification of a suitable scheme. Often, a problem or need is identified, then a viable solution is proposed to solve the problem or satisfy the need. The conditions for successful development of BOT projects can be grouped under country, project, and clients. The country should be economically stable, have the political will to proceed with the project, and have a fairly well developed local capital market and a proper legislative and regulatory framework for privatisation. The project should have a forecast steady demand, offer adequate returns, and be fairly large. The client should be creditworthy, and show its active participation and support for the project.

Identification of Local Capital Markets for Policy Research

This paper reports the results of a study seeking to identify appropriate geographic units of analysis for research on bank credit for small rural non-farm businesses. Establishment of many rural banks in a historical period of local transportation modes, trade patterns, and state regulatory jurisdiction has left an institutional legacy of geographically small rural bank markets. Availability of secondary data at the state and county level, together with this historical legacy, have led in the past to adoption of county boundaries rather than a service area, as boundaries of local rural credit markets. Frequently this assumption of counties as appropriate units of analysis is not based on observed market patterns. The study being reported addresses the research question of whether local geographic credit markets are better approximated by county boundaries or by the subcounty community units of analysis which lenders reported as their market. Data on 1986 lender portfolio distribution, lending experience and market growth are collected from personal interviews of all formal lenders in four Wisconsin rural counties.

Electricity supply in South Africa

ESCOM, at present providing for some 95% of the electricity demand, has grown from a relatively small undertaking with a total installed capacity of less than 30 MW(e) in 1922 and a capital expenditure of R15 million during the period 1923 -1930, to a gigantic undertaking with a fixed-asset value of nearly R16 billion in 1984, a staff complement of more than 60 000 and an income of over R3 billion p.a. With an estimated capital-expansion programme of between 4 and 5 billion rand p.a., ESCOM is the largest single borrower on the local capital market and it exercises a strong influence on the economy.

The Financing of Malayan Rubber, 1905-23: Reply

T HE primary objectives of my article 'The Financing of Malayan Rubber, I905-I923' were to develop two hypotheses concerning the role of international financial intermediaries involved in a capital flow from developed to less-developed countries; also, to illustrate that these hypotheses can help explain some aspects of the early financing of the Malayan rubber industry. The first hypothesis is that an important component of financial services is information provided by financial institutions concerning the capital market and alternative investments. If this is correct, it would imply that the outcome of the competition among institutions depends on the comparative advantage of different institutions in providing the currently most valuable type of information. The second hypothesis is that the operations of financial intermediaries operating in large foreign capital markets provide indirect liquidity benefits to local longterm assets which would otherwise be very illiquid in a local capital market. These hypotheses have important policy implications for less-developed countries. The effects of capital markets and financial institutions in less-developed countries have recently been stressed in some studies on economic development.' The attempt to illustrate the first hypothesis in the context of the early financing of the Malayan rubber industry required information on the history of the institutional arrangements concerning this financing as well as an estimate of the magnitude of financial services provided by different types of financial institutions. To provide this estimate, I constructed a table on the authorized capital of sterling rubber estate companies listed in the Stock Exchange Official Intelligence from I904 to I922 disaggregated by type of institution listed as the secretarial firm on the prospectus. The types of institutions considered were agency houses, firms which had commercial and/or managerial interests in Malaya and presumably had a comparative advantage in supplying information about individual Malayan rubber estates, and issuing houses, which did not have commercial or managerial interests in Malaya but presumably had other types of expertise concerning the London Stock Exchange. I also stated that this series on authorized capital was an estimate of the capital flow from Britain to Malaya. Mr Drabble and Mr Drake dispute some historical statements and interpretations made in the article, many of which do not directly involve testing the significance of either hypothesis in the Malayan case. The most important of their comments concerns my interpretation of the series on authorized capital as an estimate of the capital flow to Malaya. They are correct in pointing out possible

More on the Financing of Malayan Rubber, 1905-23

IN a recent article in this journal, Richard T. Stillson examines some financial aspects of the early history of the Malayan rubber industry.' Mr Stillson offers some very interesting observations and propositions both about the development of that industry and, more generally, about the role played by financial institutions in the process of economic development. For instance, he properly draws attention to the indirect benefits which foreign-owned financial institutions may bring to a developing country; and we would not challenge his view that institutional connexions with important foreign capital markets may confer beneficial liquidity on long-term local assets which would otherwise be very illiquid in a purely local capital market. Unfortunately, however, Mr Stillson does not succeed in establishing the validity of certain specific propositions which he advances about Malaya. The purpose of this comment is to show that there are methodological and historical inadequacies underlying three central aspects of Mr Stillson's work, namely: (i) his estimates of the total and annual flow of British capital into the Malayan plantation rubber industry from I904 to I922; (2) his contention that the average proportion of agency house financing to total British investment in the Malayan rubber plantation industry, I904-22, was considerably lower than is described in most studies; (3) his analysis of small-holder planting, said to have been partly in response to financial incentives created by the activities of the rubber companies.