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Essays on Financial Markets and Macroeconomic Performance in Less Developed Economies—Evidence from Egypt Open Access

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The objective of my dissertation research is to contribute to the quantitative-based research and policy discussion concerning the links between macroeconomics, monetary policy, and the financial sector. My dissertation is motivated by the fact that financial intermediation plays a critical role in the economic development of low income economies. Assessment of financial sector performance is instrumental towards understanding the dynamics of economic growth. My dissertation’s contribution to the empirical literature about less developed economies stems from the application of rigorous and robust econometric techniques to high quality data. This paves the way forward to better assess the effectiveness of monetary policy and efficiency of financial intermediation in these economies. My analysis, which focuses on Egypt, takes into consideration various political, economic, and social transformations that took place during the past five decades and which have substantially affected the macroeconomic performance of the country.My dissertation follows the primary model for dissertations and is divided into three different essays. In the first chapter, I examine the Demand for Money in Egypt. In the second chapter, I investigate the presence of a Broad Credit Channel for Monetary Transmission. In the third essay, I present an Aggregate Model for Savings Behavior and its Determinants in Egypt. The objective and proposed scope of my research is detailed below.In the first chapter, I study the money demand critical for defining monetary policy options. In the context of developed economies with fully functioning financial markets, money demand is influenced by transaction demand, speculation motive, and opportunity costs. This doesn’t hold for least developed economies where market imperfections and frictions can play a key role in money demand dynamics. These factors weren’t adequately covered in the empirical literature. In this chapter, I attempt to cover these issues and contribute to the empirical literature, with particular emphasis on Egypt. In the chapter, I provide a mixed strategy for estimating the money demand function that incorporates shifting from a system of equations formulated within the Vector Auto Regression (VAR) approach that maintains the information relating to the feedback between variables, followed by the Vector Equilibrium Correction Model (VECM) in order to investigate the nature of short term and long term interactions. My conclusion is that real money demand in Egypt is stable and can be considered confidently by monetary authorities as an important tool to adjust for long run growth in the real economy.In the second chapter, I focus on the credit channel for monetary policy in Egypt. Past research has shown that healthy financial intermediation should be able to support monetary policy and has the potential to mitigate transmitting economic shocks to the real sector (Bernanke, 2007; and Stein, 1998). However, most past research has focused on developed economies with little research devoted to low income countries. Research was devoted to least developed economies despite their relatively higher vulnerability to volatility, political instability, and difficulty obtaining reliable data (Fernandez, 2003). The objective of this dissertation is to fill this gap in the literature and, in particular, provide answers to three main questions regarding the conduct of monetary policy in Egypt: (i) Does bank credit operate as a transmission channel for monetary policy and, if not, is there another channel that transmits monetary policy in Egypt? (ii) Is the credit channel important to guide monetary authorities and the financial economics profession? (iii) And finally, how can Structural Vector Auto Regression (SVAR) be adopted to model monetary policy strategy for Egypt? My findings confirm the existence of a statistically significant credit channel for monetary policy when the monetary base is seen as an operating target. The key outcome is that the credit channel, if properly considered, can help authorities propagate monetary policy shocks to the real economy.In the third chapter, I study the behavior of savings in Egypt. Private sector savings play a pivotal role in financing development and sustaining growth. Understanding the dynamics of determinants of savings is crucial to inform economic policy and devise reform programs. The Egyptian government adopted an economic reform program in the 1990s, the main pillar of which was to support financial development and achieve economic growth. This followed a full liberalization of interest rates, allowing markets to determine the opportunity cost of holding money. The purpose of this dissertation is to investigate for the first time private savings behavior in Egypt using quarterly data covering the period 1991–2010 and adopting a VECM. The key finding is that in the long run, Egypt’s private savings follow the Life Cycle Model proposed by Modigliani 1954. Controlling for population growth, empirical results indicate that in the long run real interest rates and financial development are key determinants for real private savings. However, in the short run, economic uncertainty proxied by inflation and devaluation of the exchange rate are key determinants of private savings decisions. Robust macroeconomic and monetary policies are prerequisites to maximize private savings and financial growth in Egypt.

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