The impact of democracy on liquidity and information asymmetry for NYSE cross‐listed stocks

Abstract

We investigate the empirical relationship between a country's democracy level, measured using the Democracy Index's five categories (electoral process and pluralism, the functioning of government, political participation, political culture, and civil liberties), and market liquidity for non‐US stocks listed on the New York Stock Exchange (NYSE) from 2014 to 2019. Our analysis shows that non‐US stocks from countries with stronger democratic institutions have narrower spreads, a higher market quality index, smaller price impacts of trades, and lower probabilities of information‐based trading. We also find a significant correlation between changes in our liquidity measures and variations in a country's overall democracy level over time. Our results suggest that improving a country's level of democracy can enhance the market liquidity and quality of non‐US stocks, thus benefiting investors and promoting the overall stability and efficiency of financial markets.