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Financial Innovation and Endogenous Growth

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Author Info
Stelios Michalopoulos
Luc Laeven
Ross Levine

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Abstract

We model technological and financial innovation as reflecting the decisions of profit maximizing agents and explore the implications for economic growth. We start with a Schumpeterian endogenous growth model where entrepreneurs earn monopoly profits by inventing better goods and financiers arise to screen entrepreneurs. A novel feature of the model is that financiers also engage in the costly, risky, and potentially profitable process of innovation: Financiers can invent more effective processes for screening entrepreneurs. Every existing screening process, however, becomes less effective as technology advances. Consequently, technological innovation and, thus, economic growth stop unless financiers continually innovate. Historical observations and empirical evidence are more consistent with this dynamic model of financial innovation and endogenous growth than with existing models of financial development and growth.

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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 15356.

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Date of creation: Sep 2009
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Handle: RePEc:nbr:nberwo:15356

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Find related papers by JEL classification:
G0 - Financial Economics - - General
G3 - Financial Economics - - Corporate Finance and Governance
O1 - Economic Development, Technological Change, and Growth - - Economic Development
O31 - Economic Development, Technological Change, and Growth - - Technological Change - - - Innovation and Invention: Processes and Incentives
O4 - Economic Development, Technological Change, and Growth - - Economic Growth and Aggregate Productivity

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