Showing papers in "The Quarterly Review of Economics and Finance in 2018"

Network causality structures among Bitcoin and other financial assets: A directed acyclic graph approach

Abstract: We use a data-driven methodology, namely the directed acyclic graph, to uncover the contemporaneous and lagged relations between Bitcoin and other asset classes. The adopted methodology allows us to identify causal networks based on the measurements of observed correlations and partial correlations, without relying on a priori assumptions. Results from the contemporaneous analysis indicate that the Bitcoin market is quite isolated, and no specific asset plays a dominant role in influencing the Bitcoin market. However, we find evidence of lagged relationships between Bitcoin and some assets, especially during the bear market state of Bitcoin. This finding suggests that the integration between the Bitcoin and other financial assets is a continuous process that varies over time. We conduct forecast error variance decompositions and find that the influence of each of the other assets on Bitcoin over a 20-day horizon does not account for more than 11% of all innovations.

Bitcoin and global financial stress: A copula-based approach to dependence and causality in the quantiles

Abstract: We apply different techniques and uncover the quantile conditional dependence between the global financial stress index and Bitcoin returns from July 18, 2010, to December 29, 2017. The results from the copula-based dependence show evidence of right-tail dependence between the global financial stress index and Bitcoin returns. We focus on the conditional quantile dependence and indicate that the global financial stress index strongly Granger-causes Bitcoin returns at the left and right tail of the distribution of the Bitcoin returns, conditional on the global financial stress index. Finally, we use a bivariate cross-quantilogram approach and show only limited directional predictability from the global financial stress index to Bitcoin returns in the medium term, for which Bitcoin can act as a safe-haven against global financial stress.

Volatility spillovers across global asset classes: Evidence from time and frequency domains

Abstract: This paper analyzes the volatility spillovers across four global asset classes namely, stock, sovereign bonds, credit default swaps (CDS) and currency from September 2009 to September 2016, using both a time-domain and a frequency-domain framework. When the Diebold and Yilmaz (2012) methodology is applied, the estimated total connectedness index is 5.08%, suggesting a low level of connection among the four markets. Furthermore, the results show that the stock and CDS markets are net transmitters of volatility, while foreign exchange and bond markets are net receivers of the spillovers. When the Barunik and Krehlik (2018) frequency-domain analysis is carried out, the results indicate, first, that at higher frequencies, the degree of connectedness increases, and, second, that the net transmitter of volatility spillovers across the markets is contingent on the frequency under consideration.

Can cryptocurrencies fulfil the functions of money

Abstract: This paper analyses the monetary characteristics of five cryptocurrencies to evaluate whether they can perform the functions of money. While all cryptocurrencies can theoretically and practically serve as a medium of exchange, they are unlikely to become common and liquid media of exchange unless they can illustrate utility in one of the other functions of money. Digital currencies’ rigidly inflexible supply and wildly fluctuating demand make them too unstable to be used as a unit of account for the foreseeable future. Of the five, only Bitcoin has the potential to serve as a store of value, due to its strict commitment to low supply growth, credibly backed by the network’s distributed protocol and credible demonstration of the absence of any authority capable of altering the supply schedule. Other cryptocurrencies’ centralized control, and use as tokens for specific applications make them unlikely to fulfil monetary functions.

The total return to higher education: Is there underinvestment for economic growth and development?

Abstract: The total return to higher education is the rate of return based on earnings plus non-monetary private and social benefits beyond earnings that captures higher education’s contribution to development. A theory of endogenous development is a new scholarly contribution where firm and household production with education externalities and the endogeneity of new ideas leads to an optimal rate of development. This rate is higher than in an economy without these externalities. Since measures of private non-market and social benefit externalities are positive, externalities contribute to higher per capita development. The total return is estimated to be considerably higher than the opportunity cost of funds and the return on physical capital, the first major evidence of serious underinvestment in higher education in the US for optimal development. Policy-relevant treatment effects and policy options with implications for optimal development and for improving the worsening condition of the dissatisfied middle class are considered.

Determinants of capital structure: Evidence from sub-Saharan African firms

Abstract: This paper examines the determinants of leverage firms in five sub-Saharan African countries (South Africa, Ghana, Kenya, Nigeria and Zimbabwe) over the period 2006–2016. The results of the System GMM estimation and quadratic methods supports the predictions of the trade-off theory and the pecking order theory. They also show a significant inverse U-shaped relationship between the firm's performance and its leverage. Moreover, prior leverage and macroeconomic factors are robust determinants of the level of debt.

Comparative study on credit risk in Islamic banking institutions: The case of Malaysia

Abstract: The study of credit risk is a great interest and the debate over the relative credit risk of Islamic banks remains open. The study aims at addressing this key question: Do Islamic banks (IBs) have higher credit risk than conventional banks (CBs) in Malaysia? Accordingly, some papers tried to answer this question but they were performed using cross-country data. The cross-country data should have been treated more cautiously since every country has its own developmental backgrounds and regional resulting in different characteristics of banking industry. Moreover, different financial systems that give support or limit the operation of Islamic banks will also make more difficult to compare the data of each country. For that reason, it is suggested to take suitable control for heterogeneity across countries to obtain consistently good conclusions about the credit risk. Different from the cross-country works, this study will focus on the country-level data of Malaysia. A panel data model was applied and it was used the generalized least squares (GLS) model and a yearly bank level data to evaluate the credit risk of 22 conventional banks and 17 Islamic banks in Malaysia. In addition, the study period, which lasted from 2005 to 2015, seems to be representative since it encompasses the period of the sub-prime crisis. This project is an extension of the study begun by Cihak and Hesse (2008) that used cross-country bank data such Malaysia. The results are particularly interesting and do not confirm the results generated by these researchers. The main contribution that this work will hopefully make is to show the reasons which account for the Islamic banks' higher degree of credit risk, and particularly to provide additional insights and complement the existing cross-country studies on Islamic bank stability.

Do high-speed railways lead to urban economic growth in China? A panel data study of China’s cities

Abstract: This paper investigates the impact of high-speed railroads (HSR) on the economic activity of 200 Chinese cities using a new dataset from 2007 to 2014. We construct a measure of a city’s accessibility, which is measured by weighted travel time, and then apply panel Granger Causality methods to determine whether an increase in accessibility contributes to future economic growth in China. Or does causality run the opposite way – does rising economic growth boost HSR? Results document that boosts in accessibility lead to significant and relatively large increases in city-level economic growth; further, out-of-sample methods document the importance of increases in HSR in forecasting city-level GDP growth. We also compare the benefits to the costs, and find that benefits of HSR in terms of boosting Chinese GDP substantially out-weigh HSR’s large fixed costs, depreciation and subsidies.

A dynamic spillover analysis of crude oil effects on the sovereign credit risk of exporting countries

Abstract: We study the dynamic spillover of crude oil prices and volatilities on sovereign risk premia of ten oil-exporting countries. Among the determining variables, we include a set of local and global factors that are identified through principal components analysis. The results indicate 4%–31% directional spillover from crude oil prices to sovereign credit default swap (CDS) spreads. Venezuela, Colombia, Russia, and Mexico are the top recipients of crude oil shocks. The local and global factors explain a relatively large portion of the spillover as well (22.50% and 17.40% maximum, respectively). Further, using the OVX volatility index as a proxy for oil price uncertainty, we find an average directional volatility spillover of 9%. The effect of political variables, and aggregate demand and supply shocks are relatively less than the oil-specific shocks.

Extreme co-movements and dependencies among major international exchange rates: A copula approach

Abstract: This paper investigates the bivariate dependence structure between four international exchange rates (EUR, GBP, CAD, JPY), against the US Dollar, using daily data for the time-span 1999–2014. We use different time-invariant and time-varying copula functions with different forms of tail dependence, and discover a positive dependence between all exchange rates, although the dependence is less strong for the JPY-pairs of exchange rates. Furthermore, we find evidence of symmetric tail dependence. Finally, the dependence is time-varying and intensifies after the onset of the recent global financial crisis, with the exception of the JPY-pairs. These findings provide additional insight for policy makers and for understanding spillover effects on FX market, given the fact that the tail dependence is either positive or negative, is time-varying, and has different structures.

Volatility spillovers between foreign exchange and stock markets in industrialized countries

Abstract: This paper empirically analyses the evidence of intra-spillovers and inter-spillovers between foreign exchange and stock markets in the seven economies which constitute the majority of foreign exchange transactions (i.e. the United Kingdom, the United States, the Euro area, Australia, Switzerland, Canada, and Japan). Daily data during the period 1 January 1990 to 31 December 2015 and during the pre-global and post-global financial crisis periods is used. To that end, we employ two econometric methodologies: the C-GARCH methodology and the SVAR framework. Results suggest that: (i) permanent and transitory components of the conditional variance exhibit peaks in volatility during episodes of growing economic and financial instability; (ii) the long-run volatility relationships are stronger than the short-run volatility linkages with a reinforcement during the post-global financial crisis period; (iii) the presence of intra-spillovers and inter-spillovers increases substantially during the post-global financial crisis period and (iv) the stock markets play a dominant role in the transmission of long-run and short-run volatility in all samples, except for the period after the global financial crisis, where the foreign exchange markets are the main long-run volatility triggers.

To follow or not to follow – An empirical analysis of the returns of actors on social trading platforms

Abstract: We analyze the returns of traders, i.e. signal providers, on social trading platforms and of investors following these traders by utilizing differently sophisticated investment strategies. It becomes evident that simply investing in those traders with the highest accumulated returns leads to high losses, while taking the Sharpe ratio into account improves the achieved returns. Positive returns, however, are only possible for sophisticated strategies that consider information on the risk of the signal providers’ portfolios. Moreover, no strategy reveals a positive abnormal return after transaction costs in the sense of a Carhart four-factor model. Further, we analyze predictors of the weekly returns of the signal providers in a panel set-up. We find that highly active trading behavior is negatively related with the returns, while there is no wisdom-of-the-crowd effect, in the sense of a positive relationship of the number of followers or invested capital with the returns.

The investment behavior of socially responsible individual investors

Abstract: Using data on individual investors’ equity mutual fund portfolios from 2003 to 2007, this paper describes the behavior of investors in relation to socially responsible (SR) funds. The results sugge ...

Effects of fiscal transparency on inflation and inflation expectations: Empirical evidence from developed and developing countries

Abstract: Based on the arguments that a more transparent fiscal system provides policymakers with incentives to adopt better policies, in this study, we assess whether fiscal transparency affects inflation, inflation volatility, inflation expectations and expected inflation volatility. We analyze the efforts made by 82 countries in terms of increasing fiscal transparency and, based on panel data methodology, we estimate the effects of fiscal transparency on inflation and inflation expectations, as well as on inflation volatility and inflation expectations volatility. Our study is the first to present this empirical evidence, representing a contribution to the literature. The findings suggest that countries with higher levels of fiscal transparency tend to have lower inflation rates and lower inflation volatility, as well as expectations of lower inflation and less volatility in inflation expectations. The results also suggest that fiscal transparency has a stronger effect on inflation in the sample containing inflation targeting developing countries.

Monetary policy and overshooting of oil prices in an open economy

Abstract: U.S. monetary conditions are occasionally considered a driver of commodity prices. Using a cointegrated vector autoregression and quarterly data for over the last three decades, this article examines the effect of U.S. money supply on oil prices, controlling for industrial prices and echange rates. We find that monetary shocks cause adjustments of oil prices and industrial prices to be vastly different in the long-run, thereby indicting non-neutrality of money in the long-run. It is also found that oil prices tend to adjust more quickly than industrial (sticky) prices to monetary shocks to achieve the long-run equilibrium, thereby affecting relative prices in the short run.

Comparing the forecasting ability of financial conditions indices: The case of South Africa

Abstract: In this paper we test the forecasting ability of three estimated financial conditions indices (FCIs) with respect to key macroeconomic variables of output growth, inflation and interest rates. We do this by forecasting the aforementioned macroeconomic variables based on the information contained in the three alternative FCIs using a Bayesian VAR (BVAR), nonlinear logistic vector smooth transition autoregression (VSTAR) and nonparametric (NP) and semi-parametric (SP) regressions, and compare the results with the standard benchmarks of random-walk, univariate autoregressive and classical VAR models. The three FCIs are constructed using rolling-window principal component analysis (PCA), dynamic model averaging (DMA) in the context of a time-varying parameter factor-augmented vector autoregressive (TVP-FAVAR) model, and a time-varying parameter vector autoregressive (TVP-VAR) model with constant factor loadings. Our results suggest that the VSTAR model performs best in the case of forecasting output and inflation, while a SP specification proves to be the best for forecasting the interest rate. More importantly, statistical testing for significant differences in forecast errors across models corroborates the finding of superior predictive ability of the nonlinear models.

Political risk and the equity trading costs of cross-listed firms

Abstract: In order to increase investor participation in capital markets and, consequently, minimize the total cost of trading, it is important to identify which political and social attributes most significantly impact trading and adverse selection costs. We examine the effect of the components of the political risk rating compiled by International Country Risk Guide on the equity trading costs of non-U.S. stocks listed on the NYSE in 2011. While the results show a significant effect of political and social attributes on trading costs, they also indicate that this effect is generally not significant on adverse selection costs in periods of extreme price movements. Our analysis allows investors to make a more informed assessment of political risks associated with democratic stability, economic development, government effectiveness, civic cohesiveness and international integration.

Does US cross-listing come with incremental benefit for already UK cross-listed firms

Abstract: The aim of this paper is twofold. First, we try to understand the reasons that explain the decision made by companies with UK cross-listing to cross-list their shares in the US. Second, we study the impact of cross-listing on value creation. Our results shown that the motivations for such decision are related to the improvement of stock price informativeness and investor protection interests. Firms may also be motivated by reasons related to the global business strategy. However, the commitment to additional higher disclosure requirements and geographic proximity act negatively on the decision to cross-list. By applying a methodology taking into account the endogeneity of the cross-listing decision, we found results that support the positive effect of cross-listing on performance. The finding also revealed the existence of an indirect impact of the cross-listing decision through its determinants on performance.

Microfinance expansion and its effects on cost efficiency

Abstract: Although the scalability of microfinance has gained much attention in recent times, questions about its effects remain largely unanswered. Within the rationale for scalability, resides the inherent notion that a microfinance institution could make up for its loan-size disadvantage by disbursing enough small loans that would potentially translate in scale economies and thus cost efficiency gains. We test this assertion in the presence of “uncontrolled growth”—the surge in microfinance lending during the boom years of 2004–2008. In a nutshell, are cost efficiencies evident during rapid microfinance expansion? We find that aggressive microfinance growth consistently results in cost inefficiencies.

Performance of fixed-income mutual funds with regime-switching models

Abstract: We use Markovian regime-switching models to assess the performance of Canadian fixed-income mutual funds from 1980 to 2011. Fund returns are well described by two distinct volatility related bull and bear regimes. While the selection performance of Canadian fixed-income funds is negative, it is regime dependent and deteriorates during recessions. We also find mixed results on the timing ability of fund managers with poor performance for Canadian inflation protected fixed-income funds, Canadian long-term fixed-income funds, and Canadian money market funds groups. Finally, we show that a multivariate regime-switching model is superior to univariate models given the dynamic market conditions and the fund portfolios’ cross-correlations.

Expenditure decentralization and natural resources

Abstract: This paper explores the relationship between natural resource revenues and expenditure decentralization. While the literature suggests that an abundance of natural resources may have deleterious effects on fiscal decentralization and other variables, existing empirical evidence regarding expenditure decentralization is scant and suspect. We find that expenditure decentralization is highly persistent. We take this persistence into account and use four different estimation strategies to examine whether natural resource revenues influence expenditure decentralization. Increases in natural resource rents as a percentage of Gross Domestic Product (GDP) statistically significantly and negatively affect expenditure decentralization. A 1% year-on-year increase in natural resource rents reduces estimated expenditure decentralization by approximately 0.1% to 0.3%. This result is robust to an alternative measure of resource dependence. Our findings strongly suggest that increases in resource endowments lead to a centralization of government expenditures.

An empirical application of a stochastic volatility model with GH skew Student's t-distribution to the volatility of Latin-American stock returns

Abstract: Using daily stocks returns data of a set of Latin-American countries (Argentina, Brazil, Chile, Mexico and Peru) for the sample period 1996:01–2013:12, we estimate a stochastic volatility model incorporating both leverage effects and skewed heavy-tailed disturbances through of the GH Skew Student's t-distribution based on Bayesian estimation method proposed by Nakajima and Omori (2012) . Two alternative models are estimated, one using an alternative Skew Student's t-distribution and the other using a symmetric Student's t-distribution. The results suggest the presence of leverage effects in all markets except for Peru where the evidence is unclear. In addition, there is evidence of asymmetries and heavy tails in the Argentina and S&P500 markets while in the other countries there is no robust evidence of such characteristics. Using the Bayes factor, the results indicate that the SVGHSkewt model dominates the other two models for the cases of Peru, Argentina, Brazil and S&P500 whereas the simple SVt model is preferred for the markets of Mexico and Chile. Similar findings are obtained after performing a robustness analysis regarding the priors of the parameters associated with the skewness and the tails of the distribution.

Oil Shocks and Stock Return Volatility

Abstract: Asset return volatility is important to the macroeconomy. This paper asks whether oil price volatility can be used as a predictor of stock return volatility. In contrast with previous research, we focus on the out-of-sample predictive power of oil price volatility rather than on in-sample inference. Formal tests of out-of-sample predictive ability find no evidence supporting the use of oil price volatility as a predictor of future stock return volatility. Further analysis using rolling window estimation and structural break tests shows that the coefficients of this relationship are very unstable. The coefficients can be positive, negative, or close to zero depending on the sample that is chosen. We discuss the implications of this finding for monetary policy.

Long-run and short-run relationships between oil prices, producer prices, and consumer prices: What can we learn from a permanent-transitory decomposition?

Abstract: We use a permanent-transitory decomposition to provide new econometric evidence on long-run and short-run relationships between oil prices, producer prices and consumer prices. Results support cointegration and suggest a single common I(1) factor driving all three variables. Impulse responses to a permanent shock to the common factor indicate an important long-run relationship between oil prices, producer prices, and consumer prices. Impulse responses to a transitory oil price shock show no consumer price index response and only weak evidence of a short-run response in the producer price index. Hence, the conclusion is that oil price shocks have to be perceived as permanent before there is a strong link to consumer prices. Policy focused on ameliorating the effects of oil price shocks should pay close attention to whether shocks are permanent or transitory. Conclusions are robust to alternative measures of consumer prices and over different sub-samples of the data, although there is some evidence that the cointegration relationships disappear in the latter part of the sample.

Rationality or politics? The color of black gold money

Abstract: The present study investigates the determinants of Arab sovereign wealth funds (SWFs) investment decisions. Using a sample of 223 listed firms targeted by SWFs over the 2000–2014 period (among which 73 are targeted by SWFs owned by Arab countries), we find that, in comparison to non-Arab SWFs, Arab SWFs prefer larger firms operating in strategic industries based in countries with higher levels of economic and capital market development, political stability, significant degree of confidence in rules and low degree of corruption. Moreover, Arab SWFs do not seem to have a tendency to invest in firms with higher liquidity, profitability, growth or dividend payout. Taken together, results based on the sample suggest that Arab SWFs’ acquisitions may not be solely motivated by purely financial considerations.

R&D investment and patent renewal decisions

Abstract: This study employs the real options model to investigate how uncertainty in patent rewards and the chance of success of the R&D investment affect a firm’s likelihood to renew a patent. The firm chooses the date on which to undertake an R&D investment project that offers it a chance of developing an innovation, which is immediately patented and commercialized. Thereafter, the firm must pay periodic renewal fees to keep the patent alive. This paper finds that greater uncertainty does not lead to a universal effect on the renewal probability. When there is no uncertainty, the firm will always renew the patent before a certain date but will never renew it after that date. When there is uncertainty, the renewal probability will decline smoothly over time toward the expiration date. This paper also finds that a firm that is more likely to be successful in its R&D investment is more likely to renew its patent right.

Would a free banking system stabilize NGDP growth

Abstract: Since the 2008 financial crisis, a number of economists have suggested that central banks should follow an NGDP-targeting rule. Other researchers have argued that a free and unregulated banking system stabilizes NGDP growth as an unintended consequence. We explore this argument in a simple model of a free banking system. We find that a free banking system does indeed stabilize NGDP growth in response to aggregate demand shocks. However, we find that in response to aggregate supply shocks it stabilizes the inflation rate. An implication of this is that, unlike an NGDP-targeting central bank, a free banking system would not allow for disinflation or even deflation in response to a positive aggregate supply shock.

Quantile dependence between the stock, bond and foreign exchange markets – Evidence from the UK

Abstract: In the wake of Brexit, this paper aims to provide a measure for the quantile dependence amongst different financial assets – bond, stock, and currency – within the UK market and their cross–border linkages with the European equity market. We implement a nonparametric estimation method for both the tail and quantile dependence parameters on weekly data over the period 1989-2016 using copula. Our results suggest that the contagion effects between stock and currency markets are limited, even under extreme fluctuations. We also find a weak comovement between currency and bond markets, however, evidence of asymmetry is found in the dependence structure, possibly due to the ‘risk-reward’ scenario of international investors. Finally, our results indicate a weak dependence between stock returns and bond yields, possibly due to the low-yielding gilt and the thirst for income, pushing investors to diversify globally into other financial markets.

Measuring bank downside systemic risk in Taiwan

Abstract: In this study, both systemic and individual bank risks across domestic and international banks in Taiwan are analyzed given a risk event breakout, using the conditional value-at-risk (CoVaR) and the conditional expected shortfall (CoES) by estimating the bivariate quantile autoregression with asymmetric downside risk adjustment to the daily stock returns of banks. The estimation results reveal the significant external asymmetric downside risk in individual bank systemic risk in contrast to the internal asymmetric downside risk in system itself. The individual bank systemic risk contribution is idiosyncratic and incoherent, but the system risk impact on banks is consistent and co-integrated toward all banks. The empirical results show that the larger size or leverage of the individual banks causes higher system risk impact, as they are hit and go down jointly in shocking events. The foreign banks incur and spread more symmetric external risk, whereas the domestic banks suffer and release more asymmetric external risk. Accordingly, the banks in North America and Europe not only take system risk but contribute the most systemic risk during the subprime crisis and Greek debt crisis, respectively, leading to the episode of asymmetric volatility externality effect on the Taiwanese banks in Asia.

Labor unions and information asymmetry among investors

Abstract: We investigate whether and how labor unions affect information asymmetry among investors. To account for the endogeneity of unionization, we adopt an IV 2SLS model, a differences-in-differences technique, and Heckman’s (1979) two-stage procedure. We also explore an exogenous proxy for employees’ collective bargaining power. Using two samples, we find that after controlling for endogeneity, both industry- and firm-level unionization rates are significantly and negatively related to measures of information asymmetry among investors. The findings are consistent with the notion that labor unions or more broadly, employees with bargaining power, help reduce information asymmetry in capital markets.