The impact of financial liberalization on capital structure adjustment in Pakistan: a doubly censored modelling

ABSTRACT

The purpose of the study is to explain adjustment rate towards target capital structure of Pakistani nonfinancial listed firms and to investigate the impact of financial liberalization (FL) on capital structure adjustment rate. We control for the unobserved heterogeneity and the fractional nature of adjustment rate by applying an unbiased dynamic panel fractional estimator on an unbalanced panel data of Pakistani nonfinancial firms listed during 1972–2010. We find that these firms adjust at an annual rate of 24–51% to reach their capital structure targets. We argue that in order to optimize the benefits of FL the government should strengthen financial as well as judicial institutions to enforce the creditors’ rights that will enable access to more options to Pakistani firms to raise cheaper external financing.

KEYWORDS:

• Adjustment rate
• dynamic panel fractional estimator
• target capital structure
• Pakistan

JEL CLASSIFICATION:

• C23
• G30
• G32.

Disclosure statement

No potential conflict of interest was reported by the authors.

Notes

¹ The referred study (Getzmann, Lang, and Spremann 2014) takes only six firms from Pakistan.

² www.psx.com.pk.

³ www.govindicators.org.

⁴ Earlier Karachi Stock Exchange.

⁵ www.worldbank.org.

⁶ Dynamic panel fractional (DPF) estimator reduces the number of firm-year observations from 13 375 to 12 475 and number of firms from 688 to 685 because it takes 1-year lag of dependent variable (capital structure) as independent variable.

⁷ http://www.sbp.org.pk/ecodata/NPL.pdf of State Bank of Pakistan reports approximately US$ 6 billion as nonperforming loans of banking sector in Pakistan.

⁸ DPF estimator reduces the number of firm-year observations from 4739 to 4241 for pre-FL period (1972–1990) and 5337 to 4773 for post-FL period (1998–2010) because it takes 1-year lag of dependent variable (capital structure) as independent variable.

⁹ First, we create a dummy variable for the two period, before (1972–1990) and after (1998–2010) financial liberalization, and second, we create an interaction term of this dummy variable with lagged debt ratios (STD_it, LTD_it), separately. Third, we regress these dummy interaction terms, along with all other explanatory variables, one by one to find out its statistical significance.