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0.442 (0.048)
0.436 (0.058)
0.368 (0.076)
Lagged ination rate (%) 0.086 (0.132) 0.016 (0.113) 0.004 (0.018) 0.016 (0.173)
Lagged GDP per capita (ln) 8.303 (3.646)
13.54 (4.673)
12.67 (6.343)
5.025 (2.348)
Nominal exchange rate (LCU per USD) 0.0003 (0.003) 0.0008 (0.002) 0.0007 (0.002) 0.0007 (0.004)
Lagged deposit rate (%) 0.205 (0.157) 0.085 (0.013) 0.089 (0.131) 0.329 (0.222)
Broad money (% of GDP) 0.641 (0.079)
0.647 (0.081)
0.768 (0.108)
0.290 (0.104)
0.256 (0.149)
Non-performing loans to gross total loans (%) 0.029 (0.120) 0.014 (0.186)
Net incurrence of liabilities, domestic (% of GDP) 0.030 (0.315)
Net incurrence of liabilities, foreign (% of GDP) 0.175 (0.349)
Lending interest rate differences (%)
Real interest rate (%)
Private capital ows (% of GDP)
Lagged current account balance (% of GDP)
Lagged balance of trade (% of GDP)
Lagged nominal openness
Lagged real openness
Observations 220 220 216 137
Sargan test [0.00] [0.00] [0.00] [0.00]
AR(1) [0.00] [0.00] [0.00] [0.00]
AR(2) [0.35] [0.39] [0.32] [0.17]
Notes: The dependent variable is the ratio of domestic credit provided by banking sector to GDP. The constant term is also estimated
but not reported. The Sargan test shows the results of the over-identifying restrictions (null hypothesis: there is over-identication
in the estimation specication). AR(1) and AR(2) showresults of the LM statistics for autocorrelation (null hypothesis: no rst-order
autocorrelation and no second-order autocorrelation, respectively). We report robust standard errors. Standard errors are in
parentheses, and the p-values are in brackets.
,
and
indicate statistical signicance at the 1%, 5% and 10% levels, respectively.
Table 6
Results of the dynamic panel data estimation of Arellano and Bond (1991).
Regressors V VI VII VIII
Lagged domestic credit (% of GDP) 0.471 (0.059)
0.490 (0.061)
0.466 (0.059)
0.442 (0.059)
Lagged ination rate (%) 0.021 (0.141) 0.004 (0.140) 0.021 (0.014) 0.109 (0.143)
Lagged GDP per capita (ln) 8.354 (6.994) 6.422 (7.164) 6.923 (7.031) 9.278 (6.878)
Nominal exchange rate (LCU per USD) 0.0004 (0.003) 0.001 (0.003) 0.0006 (0.003) 0.0007 (0.002)
Lagged deposit rate (%) 0.018 (0.175) 0.009 (0.176) 0.021 (0.177) 0.114 (0.177)
Broad money (% of GDP) 0.686 (0.084)
0.652 (0.089)
0.686 (0.086)
0.718 (0.084)
The US broad money (% of GDP) 0.133 (0.121) 0.103 (0.124) 0.090 (0.126) 0.186 (0.120)
Non-performing loans to gross total loans (%) 0.090 (0.135) 0.123 (0.138) 0.083 (0.135) 0.014 (0.136)
Net incurrence of liabilities, domestic (% of GDP)
Net incurrence of liabilities, foreign (% of GDP)
Lending interest rate differences (%) 0.329 (0.112)
0.289 (0.117)
0.322 (0.112)
0.220 (0.114)
0.472 (0.059)
0.467 (0.059)
0.440 (0.059)
Lagged ination rate (%) 0.042 (0.144) 0.052 (0.149) 0.028 (0.140) 0.147 (0.145)
Lagged GDP per capita (ln) 9.116 (6.969) 9.484 (7.007) 9.917 (6.991) 10.59 (6.941)
Nominal exchange rate (LCU per USD) 0.0005 (0.003) 0.0006 (0.003) 0.0002 (0.003) 0.001 (0.003)
Lagged deposit rate (%) 0.079 (0.180) 0.006 (0.177) 0.012 (0.176) 0.135 (0.178)
Broad money (% of GDP) 0.702 (0.085)
0.706 (0.086)
0.694 (0.084)
0.722 (0.084)
The US broad money (% of GDP) 0.157 (0.121) 0.121 (0.122) 0.041 (0.126) 0.101 (0.126)
Non-performing loans
to gross total loans (%)
0.028 (0.137) 0.110 (0.135) 0.058 (0.135) 0.039 (0.137)
Net incurrence of liabilities,
domestic (% of GDP)
Net incurrence of liabilities,
foreign (% of GDP)
Lending interest rate differences (%) 0.241 (0.117)
0.364 (0.115)
0.354 (0.112)
0.247 (0.116)
Lagged nominal openness 0.084 (0.055)
Lagged real openness 0.122 (0.047)
0.109 (0.047)
0.448 (0.060)
0.435 (0.059)
0.445 (0.060)
Lagged ination rate (%) 0.135 (0.148) 0.069 (0.147) 0.124 (0.148) 0.059 (0.147)
Lagged GDP per capita (ln) 10.35 (6.928) 10.25 (7.009) 8.621 (7.067) 7.893 (7.143)
Nominal exchange rate (LCU per USD) 0.0004 (0.003) 0.0008 (0.003) 0.001 (0.003) 0.001 (0.003)
Lagged deposit rate (%) 0.129 (0.179) 0.096 (0.128) 0.118 (0.180) 0.085 (0.182)
Broad money (% of GDP) 0.735 (0.090)
0.733 (0.091)
0.750 (0.089)
0.751 (0.090)
The US broad money (% of GDP) 0.081 (0.134) 0.030 (0.135) 0.006 (0.159) 0.085 (0.157)
Non-performing loans to gross total
loans (%)
0.050 (0.139) 0.025 (0.141) 0.069 (0.139) 0.052 (0.140)
Lending interest rate differences (%) 0.245 (0.116)
0.260 (0.119)
0.244 (0.116)
0.258 (0.119)
0.120 (0.047)
0.105 (0.047)
0.114 (0.047)
0.351 (0.103)
0.280 (0.120)
Dummy for the great global recession 0.577 (1.369) 1.085 (1.373)
The 3 months LIBOROIS spread (%) 1.977 (1.845) 2.898 (1.829)
The VIX index (ln)
The SKEW index (ln)
Observations 205 205 205 205
Sargan test [0.00] [0.00] [0.00] [0.00]
AR(1) [0.00] [0.00] [0.00] [0.00]
AR(2) [0.75] [0.69] [0.62] [0.57]
Notes: The dependent variable is the ratio of domestic credit provided by the banking sector to GDP. The constant term is also
estimated but not reported. The Sargan test shows the results of the over-identifying restrictions (null hypothesis: there is
over-identication in the estimation specication). AR(1) and AR(2) show results of the LM statistics for autocorrelation (null
hypothesis: no rst-order and no second-order autocorrelation, respectively). We report robust standard errors. Standard errors are
in parentheses, and the p-values are in brackets.
and
indicate statistical signicance at the 1% and 5% levels, respectively.
13 G. Gozgor / Emerging Markets Review 18 (2014) 118
of the ratios of domestic credit provided by banking sector to GDP in Table 1. The domestic credit cycles in
Latvia and Estonia present a volatile structure compare to other observations in the data set; therefore,
they may also introduce a break down in the main results. In the sixth regression, we exclude Latvia,
Estonia, Peru, and Venezuela. Similarly, the seventh regression excludes Latvia, Estonia, South Africa, and
Thailand; while the eighth regression leaves out all possible extreme cases: Latvia, Estonia, South Africa,
Thailand, Peru, and Venezuela in the cross-section data estimations.
The results in Table 10 indicate that the coefcients for the explanatory variables in the cross-section
data estimations are statistically signicant in all cases. In addition, they have expected same signs with
the dynamic panel data estimations. Therefore, the results of the OLS cross-section data estimations
strongly support the main results of the ArellanoBond regressions. In short, we run the LOO type of
analysis in the study and our main conclusions stick up when some of the observations are not included in
the sample; thus the results are robust.
6. Discussion and implications
There are several possible economic and nancial explanations for our empirical results. First, we nd
that increases in the domestic money supply, or more generally, loose domestic monetary policy,
positively affect EME credit levels. According to both the short-run and long-run coefcients, this is the
most important (internal demand) factor in domestic credit expansion in EMEs, especially in the long
term. In fact, loose monetary policy is generally designed to encourage investment-led economic growth
in a developing economy, an objective that necessarily involves enabling economic agents to obtain credit
more easily and cheaply. Therefore, businesses, investors and consumers seize the opportunity of cheap
nance and domestic credit demand increases. This nding is in line with previous ndings of Aisen and
Franken (2010), Guo, and Stepanyan (2011), Elekdag and Wu (2011), Elekdag and Han (2012), and Magud
et al. (2012). However, we nd statistically insignicant effects of another internal demand factor
domestic incomeon domestic credit expansion; in other words, there is no signicant relationship that
runs from income to domestic credit. Contrary to the early ideas by Knut Wicksell, Ludwig von Mises,
Table 9
Results of the dynamic panel data estimation of Arellano and Bond (1991).
Regressors V VI VII VIII
Lagged domestic credit (% of GDP) 0.445 (0.058)
0.462 (0.058)
0.438 (0.059)
0.449 (0.059)
Lagged ination rate (%) 0.139 (0.145) 0.083 (0.145) 0.087 (0.150) 0.022 (0.149)
Lagged GDP per capita (ln) 10.91 (7.001) 10.37 (7.076) 5.772 (7.429) 4.576 (7.510)
Nominal exchange rate (LCU per USD) 0.001 (0.003) 0.001 (0.003) 0.001 (0.003) 0.0008 (0.003)
Lagged deposit rate (%) 0.123 (0.078) 0.098 (0.110) 0.063 (0.184) 0.211 (0.186)
Broad money (% of GDP) 0.729 (0.085)
0.720 (0.086)
0.753 (0.087)
0.749 (0.088)
The US broad money (% of GDP) 0.150 (0.138) 0.137 (0.139) 0.004 (0.139) 0.049 (0.138)
Non-performing loans to gross total
loans (%)
0.046 (0.138) 0.019 (0.139) 0.062 (0.137) 0.037 (0.138)
Lending interest rate differences (%) 0.270 (0.123)
0.303 (0.125)
0.216 (0.117)
0.227 (0.119)
0.098 (0.051)
0.118 (0.047)
0.131 (0.048)
0.329 (0.103)
0.252 (0.122)
36.01 (16.97)
0.907
(0.081)
1.055
(0.210)
0.863
(0.232)
1.104
(0.197)
1.066
(0.221)
0.926
(0.071)
0.872
(0.067)
Interest rate
difference
0.249
(0.104)
0.526
(0.174)
0.281
(0.082)
0.556
(0.124)
0.282
(0.063)
0.318
(0.147)
0.572
(0.218)
0.609
(0.189)
Real
openness
0.006
(0.001)
0.103
(0.046)
0.018
(0.008)
0.093
(0.028)
0.041
(0.016)
0.054
(0.014)
0.063
(0.018)
0.049
(0.021)
Current
account
balance
1.317
(0.346)
0.528
(0.214)
1.186
(0.246)
0.286
(0.141)
1.052
(0.538)
0.838
(0.384)
0.186
(0.042)
0.174
(0.076)
33.69
(13.11)
36.11
(16.03)
34.24
(16.23)
34.52
(15.14)
34.07
(12.18)
33.91
(15.96)
32.54
(16.81)
Observations 24 22 22 20 22 20 20 18
Adjusted
R-squared
0.67 0.88 0.64 0.88 0.68 0.65 0.91 0.93
Notes: The dependent variable is the ratio of domestic credit provided by banking sector to GDP. The constant term is also estimated
but not reported. We use robust standard errors. Standard errors are in parentheses.
,
and
indicate statistical signicance at
the 1%, 5% and 10% levels, respectively.
15 G. Gozgor / Emerging Markets Review 18 (2014) 118
rates, attraction of FDI and foreign portfolio investments. They also reduce investors' and businesses'
appetite for risk and consumers' demands for goods and services. External balances are linked to both
external supply and internal demand factors in creating an environment of credit scarcity or richness in
developing economies.
Fifth, recent empirical evidences such as those obtained by Tang et al. (2008) and Arndt et al. (2010)
show that external funding complements domestic credit in developing economies. On the contrary, if
foreign rms compete against domestic rms in the use of domestic credits, foreign and domestic funding
will be substitutes and this eliminates investment opportunities for domestic rms (Agosin and Machado,
2005). In line with the issue, this paper discusses the role of the external factors in understanding
domestic credit behavior and controls the effects of the downside indicators such as the VIX and the SKEW
indices on domestic credit. We also address a relevant question and test the hypothesis whether domestic
credit and external nancing are substitutes or complements in general and whether this behavior
changes with respect to the business cycle phase or global economic conditions. The ndings show that
the relationship between the domestic credit and the foreign funding is statistically insignicant; thus
they are neither complements nor substitutes in 24 EMEs. These results are in line with the recent ndings
of Furceri et al. (2012). In fact, we nd that the S&P 500 SKEW index, a strong benchmark measure of the
perceived risk of extreme negative movements in US equity markets and global nancial markets, has a
negative effect on domestic credit. This result is in the line with Bakker and Gulde (2010), who suggest the
role of external factors in determining domestic credit levels, and with Takats (2010), who emphasizes the
importance of volatility of the S&P 500 index as a global supply factor in domestic credit in EMEs. Indeed,
perceived risk of extreme negative movements in nancial markets might cause closure of the credit taps.
Our empirical results suggest that the SKEW index could also be a powerful global supply factor in
domestic credit availability in EMEs. We draw out the implications for offsetting policy responses to tail
risk indicated by the SKEW index.
More generally, using the domestic money supply as a policy tool, policy-makers in developing
economies should carefully calibrate their monetary policy stance to counter external factors (i.e., the
external imbalances of the country, the perceived global risks, the benchmark interest rate in global
markets, and economic and nancial conditions at the international level), thus avoiding the transmission
boombust credit cycles into their domestic economies. Economic and nancial dynamics particular to
each emerging market will, of course, modify these general implications.
7. Concluding remarks
This paper empirically investigates the determinants of domestic credit across a wide range of 24 EMEs
over the period 20002011. We use dynamic panel data estimation techniques to examine the short-run
and long-run effects of internal demand and external supply factors, external balances, and different
measures of global economic and nancial market conditions on domestic credit levels. We check the
robustness of our empirical ndings by considering the effects on domestic credit levels in EMEs of
perceived global risk and global uncertainty as well as the period effect of the great global recession of
200809.
We obtain several notable empirical results. First, we nd a strong persistence of domestic credit in
EMEs, a nding we conrm using the second generation PUR test of Pesaran (2007). This result allows us
to distinguish between the short run and the long run in interpreting the coefcients of the explanatory
variables. Second, the empirical results indicate that loose monetary policy conditions in the domestic
market, lending rate differences between domestic and global markets, and real trade openness
systematically and positively contribute to domestic credit expansion. Third, we nd that external
balances contribute negatively to domestic credit expansion. Fourth, we nd that perceived risk of
extreme negative movements in global nancial markets suppresses domestic credit.
Within this context, we investigate the economic and nancial roots of our empirical results and
discuss possible implications in the literature. The main empirical ndings in this paper concern the role of
loose monetary policy in domestic credit expansion, a result in line with Aisen and Franken (2010), Guo,
and Stepanyan (2011), Elekdag and Wu (2011), Elekdag and Han (2012), and Magud et al. (2012). The
remaining results also accord with recent papers, such as those by Takats (2010), Mendoza and Terrones
(2012), and Lane and McQuade (2013). Future studies of this issue might use different panel data
16 G. Gozgor / Emerging Markets Review 18 (2014) 118
estimation techniques, such as the system GMM panel and bias-corrected least square dummy variable
estimators, to examine possible determinants of domestic credit levels in EMEs. On the other hand,
another empirical strategy is that to employ a regime-dependent model for understanding behavior of
domestic credit in EMEs. However, we also leave it to another study.
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