NATIONAL BUREAU OF ECONOMIC RESEARCH
NATIONAL BUREAU OF ECONOMIC RESEARCH

Credit Constraints and Stock Price Volatility

Galina Hale, Assaf Razin, Hui Tong

NBER Working Paper No. 13089
Issued in May 2007
NBER Program(s):   IFM

This paper addresses how creditor protection affects the volatility of stock market prices. Credit protection reduces the probability of oscillations between binding and non-binding states of the credit constraint; thereby lowering the rate of return variance. We test this prediction of a Tobin's q model, by using cross-country panel regression on stock price volatility in 40 countries over the period from 1984 to 2004. Estimated probabilities of a liquidity crisis are used as a proxy for the probability that credit constraints are binding. We find support for the hypothesis that institutions that help reduce the probability of oscillations between binding and non-binding states of the credit constraint also reduce asset price volatility.

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Document Object Identifier (DOI): 10.3386/w13089

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