Do Stock Markets Represent Economies?

Abstract

This paper develops a series of stock market representativeness indices as a new method for analysing stock market development, and applies this method to data on stock markets and economies of thirty-one European countries, as well as Japan and the USA. The main conclusion is that stock markets poorly represent the underlying economies. Publicly traded companies constitute an absolute minority of the total population of large companies. In this respect the level of stock market representativeness in Europe is much lower than in the USA and Japan. Second, in Europe, the USA, and Japan stock markets are strongly biased towards very large companies, towards high technology companies, and particularly high technology knowledge intensive services, as well as towards companies from financial centres. They are biased against smaller, although still large companies, against lower technology manufacturing and less knowledge intensive services, and against provincial companies. Notwithstanding these general findings, stock market representativeness varies considerably between individual countries, highlighting the significance of country-specific factors. Research and development intensity, venture capital industry, asymmetric information, social networks, and government policy are explored as potential reasons for the stock market biases. Implications are drawn for European policy-makers, researchers, as well as financial firms.

Keywords: stock markets, listing, Europe, USA, Japan

JEL Classification: E44, G15, G3