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  • INVESTMENT UNDER FINANCIAL LIBERALIZATION: CHANNELS OF LIQUIDITY AND UNCERTAINTY

    A Dissertation Presented

    by

    ARMAĞAN GEZICI

    Submitted to the Graduate School of the University of Massachusetts Amherst in partial fulfillment

    of the requirements for the degree of

    DOCTOR OF PHILOSOPHY

    September 2007

    Economics

  • © Copyright by Armağan Gezici 2007

    All Rights Reserved

  • INVESTMENT UNDER FINANCIAL LIBERALIZATION: CHANNELS OF LIQUIDITY AND UNCERTAINTY

    A Dissertation Presented

    by

    ARMAĞAN GEZICI

    Approved as to style and content by:

    __________________________________________ James Crotty, Co-chair

    __________________________________________ Gerald Epstein, Co-chair

    __________________________________________ James Heintz, Member

    ________________________________________ Diane Flaherty, Department Chair Economics

  • iv

    ACKNOWLEDGMENTS

    The effort and good will of many people have enabled completion of this

    dissertation. I have been incredibly fortunate to have two strong and supportive advisors

    in Jim Crotty and Jerry Epstein. While being a constant inspiration with his own work

    and insightful suggestions, Jim Crotty has also given me great freedom to pursue

    independent work. Jerry Epstein’s constant kindness and guidance helped me not lose

    faith in myself and my work. James Heintz kindly agreed to join my committee despite

    his very busy schedule and provided valuable coments.

    My fellow graduate students have provided a warm and productive environment

    throughout my long graduate school career. Mathieu Dufour shared his invaluable

    insights on the earlier drafts of my dissertation. Jennifer Cohen read the final draft and

    made it more readable. I am also indebted to Anil, Arjun and Alper for their precious

    support in different stages of my work.

    Funding for this research and fieldwork was provided by the Political Economy

    Research Institute, Department of Economics at UMass, Amherst and Social Science

    Research Council. Many thanks indeed for the financial support. Yuksel Vardar at the

    Union of Chambers and Commodity Exchanges of Turkey generously provided his time

    and expertise during my fieldwork in the summer of 2004.

    Finally I cannot be grateful enough to my parents for unconditional acceptance

    and support they have given me.

  • v

    ABSTRACT

    INVESTMENT UNDER FINANCIAL LIBERALIZATION: CHANNELS OF LIQUIDITY AND UNCERTAINTY

    SEPTEMBER 2007

    ARMAĞAN GEZICI, B.Sc., MIDDLE EAST TECHNICAL UNIVERSITY

    M.A., UNIVERSITY OF MASSACHUSETTS AMHERST

    Ph.D., UNIVERSITY OF MASSACHUSETTS AMHERST

    Directed by: Professor James Crotty and Professor Gerald Epstein

    This dissertation examines the effects of financial liberalization on investment

    decisions of manufacturing firms in Turkey, through the channels of liquidity and

    uncertainty. While the former channel is analyzed in the literature on financing

    constraints, the latter is left out of the studies investigating investment behavior under

    liberalization. As suggested by literature on financing constraints, the positive role of

    liquidity in determination of investment is expected to be eliminated with liberalization,

    since firms would have better access to capital markets. I argue that with the

    consideration of heightened instabilities, the expected change in the importance of

    liquidity may not take place, as investment is impeded by uncertainty.

    Based on the results of a qualitative field research project that involved

    interviewing the managers of manufacturing firms in Turkey, a firm level investment

    model which contains output, liquidity and uncertainty as the determinants of

    investment, is developed in the dissertation. I test the validity of the model with a novel

    unbalanced data set from Turkish economy, comprising 165 manufacturing firms for the

  • vi

    period 1985-2003. The econometric estimation technique adopted estimating this

    dynamic model is Generalized Moment of Methods (GMM). Based on this benchmark,

    hypotheses regarding the role of internal funds and uncertainty under the impact of

    financial liberalization are tested by utilizing various aggregate financial deepening

    indicators. I also identify different effects across the different firm categories of size,

    export orientation and maturity.

    Econometric tests and survey results provide evidence for a negative relationship

    between firm level investment and uncertainty variables, and a positive relationship

    with liquidity and sales variables. The negative impact of uncertainty on investment is

    worsened under financial liberalization due to nonlinearities in investment-uncertainty

    relationship as suggested by Post Keynesian theory. There is no evidence for a declining

    importance of liquidity. Overall, results suggest that financial reform policies did not

    lead to the expected benefits for the investment of real sector firms while producing

    increased uncertainty that impedes investment further.

  • vii

    TABLE OF CONTENTS

    Page ACKNOWLEDGMENTS ............................................................................................... iv

    ABSTRACT...................................................................................................................... v

    LIST OF TABLES ............................................................................................................ x LIST OF FIGURES..........................................................................................................xi

    CHAPTER

    1. INTRODUCTION................................................................................................. 1

    2. PERSPECTIVES ON LIBERALIZATION AND INVESTMENT...................... 7

    2.1 What Happens to Investment under Financial Liberalization? ....................... 7

    2.1.1 Access to Credit and Investment...................................................... 8 2.1.2 Financing Constraints under Liberalization................................... 13 2.1.3 High Volatility and Instability under Liberalization ...................... 17

    2.2 Theories of Investment: ................................................................................ 24

    2.2.1 Accelerator Theory......................................................................... 24 2.2.2 Jorgenson’s Model ......................................................................... 27 2.2.3 q Models......................................................................................... 29 2.2.4 Euler Equation Models .................................................................. 31 2.2.5 Financing Constraints and Euler Equations ................................... 34 2.2.6 Uncertainty and Option Value Models .......................................... 38 2.2.7 A Post Keynesian Investment Theory............................................ 43

    3. FINANCIAL LIBERALIZATION IN THE TURKISH ECONOMY ................ 51

    3.1 Policy and Developments before 1980 ......................................................... 51 3.2 Liberalization and Financial Reforms since 1980......................................... 54 3.3 Growth and Investment Outcomes of Liberalization .................................... 57 3.4 The Impact of Reforms on the Financial System.......................................... 63

    3.4.1 Financial Deepening ...................................................................... 63 3.4.2 Changes in Banking Sector ............................................................ 65

    3. 5 Dominance of Public Securities................................................................... 70

  • viii

    3.6 Financial Dollarization.................................................................................. 72 3.7 Capital Flows and Volatility ......................................................................... 74 3.8 Summary and Concluding Remarks ............................................................. 76

    4. FIELD RESEARCH ON INVESTMENT UNDER UNCERTAINTY .............. 80

    4.1 Objectives and Methodology ........................................................................ 81 4.2 Interview Design ........................................................................................... 84 4.3 Findings from Part 1: Firm Demographics ................................................... 84 4.4 Findings from Part 2: Investment-Financing-Uncertainty ............................ 90

    4.4.1 Sources of Investment Funds ......................................................... 90 4.4.2 Determinants of Investment ........................................................... 94 4.4.3 Impediments to Investment ............................................................ 98 4.4.4 Realization of Expected Profits ................................................... 103 4.4.5 Sources of Uncertainty................................................................. 104 4.4.6 The Impact of 2001 Crisis on Firms ............................................ 107 4.4. 7 Strategies to Cope with the Uncerta

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