Impact of financial reforms on firm's investment from emerging economies

Abstract

The understanding the effects of financial reforms on financial constraints and firm investment is an important issue from both microeconomics and macroeconomics perspectives. This study empirically investigates the impact of financial reforms introduced in the 90s have succeeded in relaxing financial constraints to investment. The analysis is mainly based on the cross-industries panel of 501 Indian and Chinese non-financial large firms for the period from 2000 to 2009. By applying an Euler investment model, we examine the whether financial reforms have relaxed the constraints faced by firms for domestic and foreign investment decision. In particular, impact of financial reforms is measured through two ways: credit supply and foreign listing. Results find that firms are financially constrained in their investment decision. Intensity of financial constraints to investment is higher for Indian firms. Firms from both economies face financial constraints to their domestic as well as foreign investment. Further, results show that financial constraints to overall investment in Indian market decreases with business group affiliation, while state-ownership is beneficial for Chinese firms to overcome market imperfections. Similar pattern emerges for corporate domestic and foreign investment decisions in both countries. However, affiliation to business groups does not have any effect on financial constraints to foreign investment in Indian market. Next, the empirical results show that positive impact of financial reforms in terms of credit supply. In both markets, financial constraints to overall investment decreased due to improved supply of funds. The positive effect of reforms in terms of credit supply remains consistent for domestic and foreign investment. The magnitude of coefficient indicates intensity of financial constraints to investment at certain extent. In contrast, Indian large firms are not financially constrained. The impact of financial reforms is significant in Indian large firms are not financially constrained. The impact of financial reforms is significant in Indian financial market, representing that financial policies targeting the credit excessive supply are more successful in India. However, econometric results are not supportive to the positive role of foreign listing in mitigating financial constraints. Financial policies assisting firms to foreign list do not seems to have had much effect on the financial constraints to domestic or foreign investment decision in either market.