key: cord-0726285-wyfz9suz authors: Erdem, Orhan title: Freedom and Stock Market Performance during Covid-19 Outbreak date: 2020-06-28 journal: Financ Res Lett DOI: 10.1016/j.frl.2020.101671 sha: ca946f30084f0fa4cffb74a9f2c64f5a44e746ba doc_id: 726285 cord_uid: wyfz9suz • The number of Covid-19 pandemic cases per million has significant negative effects on global financial markets. • The adverse effects of the coronavirus on the stock markets are less in freer countries. In other words, the stock markets of less-free countries are affected more by the same size of increase in the number of coronavirus cases. • For every increase in the growth of number of Covid-19 cases per million, the stock market returns in freer countries are associated with less return decreases. • Even though the growth of the number of Covid-19 cases per million increases the volatility in less-free countries, its effect on freer countries is not statistically different from zero. The outbreak of the novel coronavirus Covid-19 pandemic, which is accepted as the third serious coronavirus outbreak in less than 20 years (Yang, et al. 2020 ), has caused a global pandemic, with approximately 3.1 million confirmed cases and 227,000 deaths as of April 30, 2020 (Roser, et al. 2020 ). The harsh measures imposed, such as closing borders, sealing off cities, stay-at-home orders, and lockdowns severely hit many countries' economies and financial markets. The U.S. economy already contracted 4.8% in the first quarter of 2020. The International Monetary Fund, in its April 2020 report, projects a global growth rate of -3% in 2020 (The lowest global growth rate during the 2007-09 global financial crisis was recorded as -1.7% in 2009). (Gormsen and Koijen 2020) predicts a 6.3% decrease in the EU`s GDP growth. (Reinhart 2020) states that the economic consequences will -likely surpass those of the 2007-09 global financial crisis.‖ America`s S&P500 Index dropped by 22% from January 21, the day the first case was reported in the USA, until March 31, 2020. Countries have been announcing their number of cases and deaths since the onset of the pandemic. However, certain country groups, those especially associated with more freedom, reported a higher number of cases and deaths than others with less freedom. For example, Romania (which ranks 66 in freedom index among 197 countries) reported 622 Covid-19 infection cases per million as of the end of April, whereas its very neighbor Hungary (which ranks 85) announced 287, and its other neighbor Ukraine (which ranks 108) announced 225. There are similar cases in the world, which raises doubts about the pandemic data. 1 To be more specific, countries that have an above-median freedom score (I will call these -freer countries‖ hereafter), report an average of 550 cases per million, whereas below-median countries (less-free countries, hereafter) report an average of 127. 2 Deaths per million in these country groups are 25.6 and 1.5, respectively. Thus, per-million cases are 3 times higher, per-million deaths are 16 times higher in freer countries. Is the difference attributable to the control-incapability of some countries or does it have something to do with their regime? It is impossible to answer this question precisely, especially because of the lack of transparency. However, as (Pastor and Veronesi 2009) emphasize, certain facts turn out to be less puzzling, after checking certain financial market parameters, such as volatility, and understanding that they are subject to learning. Thus, we can use stock markets to track how investors reacted to each country`s announcement of Covid-19 data, and link the Covid-19 data and the stock markets, concerning especially the freedom of countries. Several studies link Covid-19 data and stock markets. (volatility index) to Covid-19 data and concludes that reports from outside China have more impact on VIX. Using data from 12 most-affected countries, (Zhang, Hu and Ji 2020), map how the correlation between countries` stock markets before and after the Covid-19 crisis. Here, I intend to show how investors react to different coronavirus data announcement, considering especially the level of freedom in each. To do this, I employ a panel regression analysis with 75 countries (the list is given in the Appendix) using their stock market index returns and volatilities as dependent variables and their Covid-19 data (number of cases per million and number of deaths per million), their level of freedom as independent variables. The contribution of this study is two-fold: First, unlike most of the current studies, this study is not country-specific; it covers 75 countries, and thus draws a global conclusion. Second, it builds a connection between how the returns of stock market indices differ with respect to Covid-19 news from different regimes, i.e. free and not-free countries. To the best of my knowledge, no study has yet analyzed how the level of freedom affects the size of the impact of the same shock, i.e. Covid-19, on different stock exchanges. My results indicate two findings: First, the pandemic has significant negative effects on stock markets, i.e. decreasing returns, increasing volatility. Second and more importantly, investors process the coronavirus data depending on the level of the freedom of that country. Specifically, for every increase in the number of cases per million, the stock market returns in freer countries are associated less decrease than those in less-free countries are. Similarly, for every increase in the number of cases per million, the volatilities in stock markets in freer countries are associated with less increase than those in less-free countries. Thus the adverse effects of the Covid-19 on the stock markets are less in freer countries. In this study, I use the daily broad stock market indices of 75 countries together with their corresponding Covid-19 data (total number of confirmed cases per million, the total number of deaths per million) for the period January-April 2020. Unlike similar studieslike (Al-Awadhi, et al. 2020) and (Zhang, Hu and Ji 2020) -I prefer to use -per million‖ adjustment, to prevent a possible bias toward more populated countries. The global stock market indices were gathered from Bloomberg, and the data on global coronavirus cases were obtained from https://ourworldindata.org (Roser, et al. 2020 ). Countries whose stock market data are not available are excluded from the analysis. I also collect countries' 2019 freedom index from Freedom House. This index adds the scores of 10 political rights indicators and 15 civil liberties indicators for 195 countries to come up with a unique number for each country, ranging from 0, the lowest freedom, to 100, the highest freedom. 3 I also created a dummy variable from this index, which is defined below (Equation 4). The stock market index returns and 5-day moving volatility are calculated as follows: where Index it is the level of a dollar-denominated major stock market index in country i at time t. and ̅ stands for 5-day average of the index returns for country i. The growth in coronavirus-related data is calculated in a similar manner: where Case i,t is the number of confirmed coronavirus cases per million in country i at time t, and Death i,t is the number of deaths per million in country i at time t. I also form a dummy variable, FD i,t , defined as: where F i,t is the freedom score of a country in Freedom House's freedom data and 81 is the median of the F i,t data (see Table 1 ). As it can be seen in Figure 1a , the average number of cases per million in freer countries (FD i,t =1) has mostly been higher than those of others. It is also worth noting from Table 1 that, during the mentioned period, freer countries reported more cases per million on average, 550 versus 127 (mean difference test p-value=0.00). Similarly, Figure 1b and Table 1 show that, on average, freer countries report more death per million, 25.6 versus 1.5 (mean difference test p-value=0.00). Using a panel regression, I estimate the index returns and volatilities as follows: Where G i,t represents either GC i,t or GD i,t , and X i,t is the fixed-effect variables (countries and time). These regressions are run to understand whether there is a relationship between the freedom score of countries and their stock market movements in response to Covid-19 announcements. As many free countries are developed countries with complex financial systems, state and time fixed effects are used to eliminate a possible effect that might be caused by countries' economic and financial strength. This section presents the results of the panel data regressions in Table 3 . Country fixed effects (74 dummies) and time fixed effects (14 dummies) are employed in all regressions. Columns (1) and (2) of Table 3 (1) and (2) is the major stock market index returns, and for (3) and (4) Another point to notice in the regressions is that the coefficient of the cross term FD*GC is positive and significant in (1) and negative and significant in (3). This is not the case in (2) All in all, freer countries experience less return decreases, and less volatility increases (almost zero) in response to a rising number of Covid-19 cases. One might argue, however, that this might be because most free countries have more complex and efficient financial systems. Thus, these results might be attributable to their financial strength not to their freedom. This argument is eliminated by the country and time fixed effects, which are used to control the effects that might be caused by different economic and financial environments of the countries such as the size of the economy. The results are striking because even though freer countries report a higher number of cases and deaths than less-free countries, the effect of the same size of an increase in pandemic cases has less effect on their stock markets. There might be several explanations for this. First, as less-free countries are associated with more suppression of freedom of expression (Freedom This study analyzes whether there is a relationship between the freedom of countries and their stock market movements in response to Covid-19 announcements. Considering that freer countries announce higher numbers of confirmed cases and death tolls than the others, the study is specifically concerned with how markets react to these countries` pandemics announcements. Using broad stock market indices of 75 countries together with their coronavirus toll numbers, the results suggest first that markets are significantly negatively affected by the growth in the number of confirmed cases per million; the index returns decrease and volatilities increase. However, the growth in the number of deaths per million does not have a significant effect on the markets. Moreover and more interestingly, the adverse effects of the coronavirus on the stock markets are less in freer countries. In other words, the stock markets of less-free countries are affected more by the same size of an increase in the number of coronavirus cases. Similarly, the index volatilities in freer countries are associated with less increase than those in less-free countries. Death and contagious infectious diseases: Impact of the COVID-19 virus on stock market returns Coronavirus and Financial Volatility: 40 Days of Fasting and Fear The Coronavirus And The Great Influenza Pandemic: Lessons From The -Spanish Flu‖ For The Coronavirus's Potential Effects On Mortality And Economic Activity The Covid-19 Riddle: Why Does the Virus Wallop Some Places and Spare Others Stealing from Thieves: Expropriation Risk, Firm Governance, and Performance Democracy in Retreat Freedom in the World Coronavirus: Impact on Stock Prices and Growth Expectations Democracy and Stock Market Returns Learning in Financial Markets Feverish Stock Price Reactions to COVID-19 This Time Truly Is Different Coronavirus Disease (COVID-19) Published online at OurWorldInData.org The Invisible Risk: Pandemics and the Financial Markets When Japanese Stock Market Meets Covid-19: Impact Of Ownership, Trading, Esg, And Liquidity Channels The deadly coronaviruses: The 2003 SARS pandemic and the 2020 novel coronavirus epidemic in China Financial markets under the global pandemic of COVID-19 These results are obtained by controlling country-specific and time-specific factors such as the size of the economy. Therefore there does seem to be a strong negative relationship between freedom of a country and the effect of the pandemic on stock markets. I propose two explanations for these results: First, investors in less-free countries might be thinking that the number of cases is being underreported, and thus they overreact to the same size of announcement. Second, the possibility of expropriation, which is more likely in autocratic states, might have been increasing during pandemics, and leading to mismanagement in firms.This situation lowers the firm value, suppressing the stock market performance in less-free countries.