Ferdinand David Aritonang
Institute of Statistic (STIS), Jakarta, Indonesia E-mail: [email protected]
Abstract
Since 2010 there are a downward trend for emerging market economies (EMEs) growth which has been driven by structural factors such as diminishing capital accumulation and productivity gains and waning global trade integra- tion. Global credit aggregates explains part of the cyclical movement in output for most EMEs which raise the growth of EMEs and make strong capital inflow that can boost economic activity in EMEs. Therefore, the main objective of this research is to find out the factors affecting financial cycle that is approached by variables stock market capitalization to GDP. This research used a panel data that consist of 15 annual data from 2000-2014 and 8 cross section such as In- donesia, Malaysia, Singapore, Thailand, Philippine, India, South Korea, and China which is taken from World Development Indicators (WDI) and Global Financial Development Database (GFDD). The variable which is used as de- pendent variables is stock market capitalization to GDP. Meanwhile, another variables which is used as independent variables comprised bank net interest margin, foreign direct investment, net inflow, stock market return, bank cost to income ratio, real interest rate, and inflation as GDP deflator. The method used to answer the research‘s objective is panel regression with fixed effect model (FEM) modified seemingly unrelated regression (SUR). The empirical result showed that foreign direct investment net inflow, stock market return has a sig- nificant effect positively, while bank net interest margin, bank cost to income ratio, real interest rate, and inflation has a significant effect negatively. Thus, the increasing of foreign direct investment, stock market return and controlling bank net interest margin, bank cost to income ratio, real interest rate, and in- flation can become the solution to maintain financial cycle (stock market capi- talization to GDP) on the determined and future year.
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1. Introduction
Emerging market economies (EMEs) generally do not have the same level of market efficiency like advanced economies, but emerging market do typically have a physical financial infrastructure, including banks, a stock exchange, and a unified currency. However, since 2010 there are a downward trend for EMEs growth which has been driven by structural factors such as diminishing capital accumulation and productivity gains and waning global trade integration (European Central Bank, 2016). In addition, external factor also give an impact for a slowdown of EMEs growth comprises global trade dynamics, the global financing environment, and commodity market fluctuation.
European Central Bank (ECB) finds that financial cycle information as captured by the behavior or domestic and global credit aggregates explains part of the cyclical movement in output for most EMEs which raise the growth of EMEs and make strong capital inflow also helped to boost economic activity in EMEs countries. Ger- hard Runstler (2016) showed that if the properties of financial cycles are sufficiently different from those of regular business cycles, then monetary and fiscal policy are imperfect instruments for addressing them and the case for macro-prudential policy as a separate third stabilization policy is strengthened.
Peter Praet (2016) in a panel on International Monetary Policy also indicated that a natural tendency and capacity of financial intermediaries to transfer this expected increase in future income is a factors which closely correlated with financial cycles. Moreover, Global financial cycles are associated with surges and retrenchments in capital flow, boom and bust in asset prices and crisis (Helena Rey, 2015).
There are several considerations to weaken the potency of the global financial cycle such as act on one of the sources of the financial cycle, act on the transmission channel cyclically, act on transmission channel structurally and impose targeted capi- tal control. Adrian Blundell (2015) showed that economic theory predicts that capital control have significant negative effects: they reduce the supply of capital; raise the cost of financing; increase financial constraints for domestic firms that do not have direct access to international capital market; reduce the discipline of markets on deci- sion making; increase the risk of corruption; lead to costly effects of avoidance and enforcement; and reduce property rights so that approvals for long-term investors.
135 Based on those problems, the main purpose of this research paper is to find out
the factors affecting global financial cycle which is approached with variables of stock market capitalization to GDP. Meanwhile, another variables which is used as independent variables comprised bank net interest margin, foreign direct investment, net inflow, stock market return, bank cost to income ratio, real interest rate, and in- flation as GDP deflator.
2. Theory and Literature Review
Stock market capitalization to GDP ratio is used to determine whether an overall market is undervalued or overvalued. If the ratio around 50%, it indicates that the market is undervalued, while the ratio greater than 100%, it indicates the market is overvalued. Overvalued and undervalued as the classification of condition from stock market capitalization to GDP. Overvalued or undervalued stock has a current price that is not justified by its earnings outlook or price/earnings ratio, so it is expected to drop in price. Thus, the fluctuation of those price can describe a financial cycles. Based on Stijn et al (2011), financial cycles closely follows that of business cycles that divided by recovery phase and contraction phase. The main characteristic of fi- nancial cycle are duration, amplitude, and slope.
The structure of market economic in emerging market has a resistance during the global financial crisis. Based on Kose and Prasad (2010), characteristic of EMEs tend to have less dependence on foreign finance currency-denominated external debt. The majority of emerging markets have become a lot less reliant on foreign finance, particularly external debt. EMEs also has a large buffer of foreign exchange reserves, following the Asia financial crisis of 1997-1998, emerging markets around the world have built up large buffers of foreign exchange reserves, partly as a result of export- oriented growth strategies and self-insurance against crises.
In particular, commodity-exporting countries have been shielded to some extent from the slowdowns in the advanced economies by strong growth in EMEs. In addi- tion, emerging markets have become more diversified in their production and export patterns, such diversification offers limited protection against large global shock. Broader divergence of EME business cycle from those of the advanced economies. This has happened on account of the factors noted above, along with greater intra- group trade and financial linkages. Emerging market economies also has more stable
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macroeconomic policies, including flexible exchange rates. In another side, rising per capita income levels and a burgeoning middle class have increased the size and ab- sorptive capacity of domestic markets. From those reason, the stability condition in emerging market economies will impact the behavior of cycle business in Asia Pacif- ic region that extend enterprises to diversify their asset.
Panel data is a combination between time series and cross section data. Based on Gujarati (2014), using a panel data bring a several benefit such as cope heterogeneity problem explicitly, give a huge information and variation, give an appropriate infor- mation of changing dynamic, measure and detect an impact that can‟t be covered by cross section or time series, give a simple understanding of complexity model, and minimize a bias from individual aggregation.
The general form of panel regression according Baltagi (2013):
yit = a + X‟itP + Uit
where I denote a cross section and t denote a time series, a is a scalar, p is a matrix K