Financial liberalization and Downside Market Risk: Evidence from an Emerging Economy

Abstract

The study examines the impact of financial liberalization on downside risk in the Pakistani context. For this purpose, panel data of 24 banks listed on the Pakistan Stock Exchange (PSX) were collected over the period 2006-2017. The results were obtained by using static and dynamic panel estimation procedures. The study documents that financial liberalization enhances the investors’ exposure toward downside risk. Consistent with prior studies, the behavior of financial liberalization is persistent across the different dimensions of downside risk. Theoretically, the findings mainly support Keynesian's hypothesis. Based on the results, it is recommended that individual participants in the market may take investment decisions thereby considering the liberation of financial policies in the presence of a weak financial system. Furthermore, the study also recommends that the regulatory authorities may design policies to strengthen the banking system and reduce the investors’ vulnerability towards downside risk.