Do stock market liberalizations cause investment booms?

Henry, Peter Blair, 2000, “Do stock market liberalizations cause investment booms?” Journal of Financial Economics 58 (2000), 301-334.

Purpose:  To show that liberalizing a country’s stock market leads to increased private investment.

Motivation:  International asset pricing theory predicts that a stock market liberalization will be accompanied by a rise in the liberalizing country’s equity prices and by increased investment in physical capital.  Prior research has empirically confirmed the first prediction.  This paper investigates the second.

Findings:  In countries that liberalize their equity markets, where the marginal product of capital is high and domestic cost of capital exceeds the world average, private investment significantly and meaningfully rises.

Data/Methods:  This is an event study of liberalization in a sample of 11 emerging-market countries.

  • Determine dates of liberalization by using date of government mandate, date of first country mutual fund, or date of a jump in the IFC’s Investability Index.
  • Obtain private investment data from the World Bank’s STARS database (Socioeconomic Time Series Access and Retrieval).
  • Find stock returns in local currencies (including dividends) in the IFC Global Index, from the IFC’S Emerging Markets Database (EMDB).
  • Regress changes in log investment on dummies for the year of liberalization and the two following.
    • Include calendar year dummies to control for global macroeconomic trends.
  • Regress changes in log investment on stock returns and lagged stock returns.
    • Again include calendar year dummies.
  • Also use real U.S. interest rates and OECD output growth rates to control for world business cycles.
  • Use dummies to control for other simultaneous reforms: macroeconomic stabilization programs, trade liberalizations, privatization programs, and reductions of exchange controls.
  • Also control for domestic fundamentals, such as GDP growth.


  • Market liberalization leads to increased stock prices.
  • Growth in private investment is strongly correlated with changes in stock prices.
  • The correlation is stronger for valuation changes related to liberalization.
  • Private investment increases after liberalization, even after controlling for global cycles.