The Macroeconomic Determinants of Stock Market Development in Selected European Countries : Dynamic Panel Data Analysis

This paper is concerned with the effects of macroeconomic variables and their role in development of stock market in selected Europen countries by estimating a dynamic panel data for the period of 1995–2011. We found that income, monetazation ratio, liquidity ratio, saving rate and inflation effect on stock market development. Monetazation ratio and inflation have negative effects while income, liquidity ratio, saving rate have positive effects on stock market development. Liquidity ratio emphasizes that the stock market liquidity help to improve stock market development. Furthermore, income and saving rate are correlated with stock market growth.


Introduction
Since recently, researchers have shown an increased interest in macroeconomic variables and development of stock market for different countries.Macroeconomic factors have a significant impact on stock market performance.Many studies have been related to the economic factors and their interrelation with the stock market development.The financial system faciliate the trading, hedging, diversifying, pooling risk and mobilize saving.It can help to improve resource allocation problem (Levine, 1997).Well functioning the financial regulation and government management provide financial sector development.New European countries passed substantial alteration during the transitional period.Many countries carried out important reforms after the collapse of communism in Soviet Union, successfully adapted to European structures and after the earlier stage of transition experienced steady growth (Horvath & Petrovski, 2013).
It is agreed that stock markets have a significant role on the economic growth, which provide the same function as financial sector development.The relationship between stock markets and economic development has been analyzed by many of empirical researcher.Such as, King and Levine (1993), Atje and Jovanovic (1993), Demirguc-Kunt and Levine (1996), Singh (1997), Levine (1997) and Levine and Zervos (1998) reviewed in their studies that stock market development is deal with economic growth.This paper provides an empirical analysis of relationship between stock market development and its determinants in selected European countries over the period 1995-2011.This paper is organized as follows; in the second section, we present review the literature about stock market development.Section 3 discusses our empirical methodology and definition of variables.We present also our empirical results.Section 4 contains conclusions.

Literature Review
Many studies have shown the effects of macroeconomic variables on stock market development in different countries.Levine and Zervos (1998) implied that stock market development has positively impact long-run economic growth.Mohtadi and Agarwal (2004) examined that there was the relationship between stock market development and some variables (turnover ratio, economic growth, foreign direct investment, investment, secondary school registering) for 21 emerging countries over a period of twenty years  using a dynamic panel method.They found that economic growth, foreign direct investment, and secondary school registering and investment are important variables as determinants of stock market development.
Furhermore, Garcia and Liu (1999) explored the macroeconomic determinants (real income, saving, financial intermediary efficiency, stock market liquidity and inflation of stock market development on fifteen industrial and developing countries (Argentina, Brazil, Chile, Colombia, Indonesia, Japan, Korea, Malaysia, Mexico, Peru, Philippines, Taiwan, Thailand, United States and Venezuela) from 1980 through 1995.They showed that real income level, saving rate, financial intermediary efficiency and stock market liquidity are effective indicators of stock market development.
In another study, Rousseau and Wachtel (2000) examined the impact of the 47 capital markets on its economic growth with panel data by using the GMM to annual data from the period of 1980-1995.They showed that liquid stock markets had a significant and subsequent impact on economic growth.Naceur et al. (2007) found that saving, financial institutions, stock market liquidity and inflation are important determinants of stock market development.The empirical study covered the time period 1979-1999.They also used analysis of panel data in 12 MENA region countries.Naceur and Ghazouani also (2007) investigated whether there was a connection between stock markets banks and economic development.Using dynamic panel model with GMM. in 11 MENA countries covered over the period .They could not establish any significant link between stock market development and growth.These results are consistent with Sahu (2011) research.He investigated the causal relationship and the direction of causality between stock market development economic growth in India by for the period from1981 to 2006.He found no causal relationship between Indian stock market and economic growth.Billmeier and Massa (2009) assessed the macroeconomic determinants (institutions, remittances, income, invesment, inflation change, domestic credit, stocks traded value, oil price index, U.S. federal funds rate) of stock market development in 17 emerging stock markets in the Middle East and Central Asia by using fixed-effect panel regression.After examining the relationship on 17 countries using annual data from 1995-2005, their results indicate that remittances, income, invesment, oil price, Heritage Foundation's index, stocks traded value effect on stock market development.
Results of Yartey comparative study (2010) indicated that income level, gross domestic investment, banking sector development, private capital flows and stock market liquidity are important indicators of stock market development.He used panel data of 42 emerging countries for the period 1990 to 2004.
Using panel data, Cherif and Gazdar (2010) investigated the impact of macroeconomic determinants and institutional standart on stock market development.The study covered data of 18 years of fourteen MENA countries.They found a substantial impact of income, saving, stock market liquidity and interest rate on equity market development.Kurach (2010) performed a panel data estimation over the period 1996-2006 in thirteen CEE countries (Bulgaria, Croatia, Czech Republic, Estonia, Hungary, Latvia, Lithuania, Poland, Romania, Russian Federation, Slovak Republic, Slovenia andUkraine).institutional and macroeconomic factors (GDP, banking sector growth, stock market liquidity, budget balance and European Union membership) have been found to be the most important factors for the development of capital markets.
One of recent studies carried out by El-Nader and Alraimony (2011) investigated the relationship between the economic growth and capital market development in Jordan, by using VECM approach between 1990 and 2011.Their findings showed that growth rate of GDP had a negative role on stock market development.On the other hand, money supply, market liquidity, gross capital formation, inflation and domestic credit to private sector have positive and significant influences on stock market development.Abdelbaki (2013) reached that income, investment, banking sector development, private capital flows and stock market liquidity are important determinants of Bahraini stock market development by estimating the Autoregressive Distributed Lag (ADL) model.
In 2013, Pradhan et al. used panel vector autoregression (VAR) to investigate the causal relationship among stock market development, inflation and economic development in 16 Asian countries (Hong Kong, China, India, Israel, Jordan, Korea, Pakistan, Sri Lanka, Bangladesh, Indonesia, Japan, Kuwait, Malaysia, Philippines, Singapore, Thailand and Turkey) for the period 1988-2012.Their findings showed that existence of a multitude of causal relationship among stock market development, inflation and economic growth.They emphasized that Granger causality runs from stock market to economic growth but not in the opposite direction.In another causality research; Duca (2007) analyzed the causality between stock market capitalization and economic growth in United States, United Kingdom France, Germany and Japan for different time periods.He found that the undirectional causality between stock market capitalization and economic growth for all countries except Germany.It has been determined that stock prices Granger cause GDP.
Table 1 presents that summary of literature review in depth.This table shows many studies about independent variables of stock market developments and their findings.According to this literature, we determined independent variables.

Data
We aimed that dynamic panel data analysis using annual data over the 1995-2011 period, data permitting.We used the following indicators as explanatory variables: (Levine & Zervos, 1998;Garcia & Liu, 1999;Mohtadi & Agarwal, 2004); GDP: Log of GDP per capita is described as income level.The main driving force for development of stock market is high income.It is also important that the level of income correlates with the level of education.In addition, more educated people have known about stock market.

Turnover ratio (SMT) or Liquidity ratio (ST):
We can use two measures of stock market liquidity.First of all, turnover ratio equals the total value of shares traded to market capitilization.It is a measure of the value of securities transactions relative to the size of the securities market.The second measure of market liquidity is liquidity ratio which equals total value of shares traded on the stock market exchange divided by GDP.The liquidity ratio measures the organized trading of company equity as a share of national output.The turnover and liquidity ratios complement the market capitalization ratio.

Monetization ratio (LL):
Monetization ratio is a measure financial system development.The M3 (liquid liabilities) to GDP ratio is an determinant of the size of the financial system in relation to the economy as a whole.

Savings rate (GDS):
Saving rate is higly related to market capitalization.Liquid equity markets provide profitability and lead to assets invesment.Consequenly, it provide resource allocation efficiency.

Inflation rate (CPI) or Budget balance (CS):
These variables are used as measures of macroeconomic stability.The impact of high inflation makes stocks less attractive than low inflation.

Methodology
We consider following dynamic panel data model; (1) Where X it includes control variables.Control variables are logartihm of Gross Domestic product (L_GDP), Liquid liabilities (LL), Stocks traded % of GDP (ST) as liquidity ratio, Stocks traded % of market capitalization (SMT) as turnover ratio, Infliation consumer prices (CPI), Cash surplus (CS) as budget balance and finaly Gross domestic saving (GDS) as savings rate.
According to the literature the expected signs of the variables are as follows; We first check the stationarity level of the variables.For this purpose 5 panel unit root tests are used.The test results are given in Table 3. 3 Individual intercept and trend in the test equation.
Table 3 shows the panel unit root test results.All the variables except CPI and GDS are found stationary in level at 5 percent significance level.CPI and GDS variables are stationary in first differences.We use first differences of GDS and CPI in the estimation procedure.
Our model has lagged dependent variables as a regressor.Then it becomes a dynamic panel data model.In this situation the estimation procedure differs.Suppose we have a simple autoregressive panel data model with no additional regressors. Where In a dynamic panel data model;  Since it y is a function of i  the OLS estimator biased and inconsistent (Sevestre & Trognon, 1985).
 The Within transformatin wipes out i so the Fixed Effect estimator is biased (Nickell, 1981). The random effects GLS estimator is also biased (Anderson & Hsiao, 1981).
First, we difference to eliminate the individual effects.
y i1 becomes a valid instrumental variable when t=3. İn the third period we have For the next period y i1 and y i2 become a valid instrumentals and so on until t=T-2.The matrix Z i contains all instruments for individual i.
es two-step es m the one-step e oskedastic bot

Conclusion
In this paper, we have emphasized the effect of selected macroeconomic variables on stock market development for the period 1995-2011.A dynamic panel data estimation is used that covers 19 European countries.We found that income, monetazation ratio, liquidity ratio, saving rate and inflation effect on stock market development.
Monetazation ratio and inflation have negative impact while income, liquidity ratio, saving rate have positive impact on stock market development.Surprisingly, monetazation ratio is measured banking sector development negatively effects on stock market development.Furthermore, stock market liquidity are important determinants of market capitalization.We found that stock market liquidity is significantly positive in our model.Income and saving rate results are consistent with literature.

Table 1 .
Summary of literature review Slovakia, Slovenia) using Granger-type causality tests over the period1994-2007.
Caporale et al (2009)examined the causal relationship between stock market development and economic growth in 10 European Union members(Bulgaria, Czech Rep, Estonia, Hungary, Latvia, Lithuania, Poland, Romania, The data analyzed in this paper consists of economic and financial time series of 19 European countries (Austria, Belgium, Bulgaria, Croatia, Czech Republic, Denmark, Finland, France, Germany, Greece, Hungary, Italy, Latvia, Netherlands, Portugal, Slovenia, Spain, Sweden and United Kingdom).Because other 11 European countries data are missed, we selected 19 European countries.All data were obtained from the World Development Indicators (2008) database website.
Stock Market Development( SMDE):(Market Capitalization Ratio) This ratio equals the value of domestic shares divided by GDP.Market capitalization ratio is used as equity market development.We used stock market capitilazation ratio as dependent variable in our model.

Table 2 .
The expected coefficient signs of the variables

Table 3 .
Panel unit root test results