So Oddly Calm. Democratization, Mass Mobilization and Stock Market Liquidity in Interwar Spain

We study the effect of a rising demand for democratization on stock market liquidity across Spanish political regimes between 1914 and 1936. We use press news related to mass mobilization in favor of political and socio-economic reforms to build a monthly index of political uncertainty, and test its impact on different measures of stock liquidity based on daily data for the Madrid Stock Exchange. Our findings suggest that shifts in political uncertainty decreased trading and increased its price impact after the transition to a democratic regime in 1931. The results are in line with ambiguity-averse investors and are robust to controls for other sources of political and economic uncertainty. We also find that the effect was only partially driven by temporary and selective constraints on trading introduced by stock exchange authorities. This suggests that an open-ended process of democratization that challenged the socio-economic status quo generated radical uncertainty about future returns, leading to a persistent deterioration of market liquidity. Coeval financial chronicles support this interpretation.