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Equilibrium Intermediation and Resource Allocation With a Frictional Credit Market

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  • Jose V. Rodriguez Mora

    (University of Edinburgh)

  • Christian Bauer

    (University of Munich)

Abstract

We model an economy where financial intermediation is subject to search frictions. The economy may reduce the extent of these frictions by devoting human resources to intermediation. More efficient credit markets (i.e., with less frictions) conduct to more efficient product markets via larger and more efficient firms. They are also conductive to a smaller size of the financial sector, as less resources need to be devoted to channeling funds between lenders and borrowers. Moreover, we show that the amount of resources devoted to intermediation along the growth path is unaffected by the relative abundance of capital. In contrast, improvements in the allocative efficiency in the product market produce a larger financial sector. In a Solow growth version of the model, more efficient credit markets are associated with higher steady state incomes and capital, more demanding selection of firms and, thus, more efficient aggregate production and more homogeneous firms. Outside steady state, the rate of growth for any given capital level is larger the more efficient the financial sector. In an AK version of the model, long run growth is decreasing in the amount of frictions in the credit market.

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Bibliographic Info

Paper provided by Society for Economic Dynamics in its series 2012 Meeting Papers with number 843.

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Date of creation: 2012
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Handle: RePEc:red:sed012:843

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  1. Jonathan Chiu & Thorsten V. Koeppl, 2011. "Trading Dynamics with Adverse Selection and Search: Market Freeze, Intervention and Recovery," Working Papers 11-30, Bank of Canada.
  2. Luigi Guiso & Paola Sapienza & Luigi Zingales, 2004. "Does Local Financial Development Matter?," The Quarterly Journal of Economics, MIT Press, vol. 119(3), pages 929-969, August.
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  7. Blanchflower, D.G. & Oswald, A., 1991. "What Makes an Entrepreneur?," Economics Series Working Papers 99125, University of Oxford, Department of Economics.
  8. Mitchell A. Petersen & Raghuram G. Rajan, 2002. "Does Distance Still Matter? The Information Revolution in Small Business Lending," Journal of Finance, American Finance Association, vol. 57(6), pages 2533-2570, December.
  9. Katheryn N. Russ & Diego Valderrama, 2009. "A theory of banks, bonds, and the distribution of firm size," Working Paper Series 2009-25, Federal Reserve Bank of San Francisco.
  10. Dale T. Mortensen & Christopher A. Pissarides, 1993. "Job Creation and Job Destruction in the Theory of Unemployment," CEP Discussion Papers dp0110, Centre for Economic Performance, LSE.
  11. Levine, Ross, 1996. "Financial development and economic growth : views and agenda," Policy Research Working Paper Series 1678, The World Bank.
  12. Vincenzo Quadrini, 1997. "Entrepreneurship, saving and social mobility," Discussion Paper / Institute for Empirical Macroeconomics 116, Federal Reserve Bank of Minneapolis.
  13. Diamond, Peter, 1990. "Pairwise Credit in Search Equilibrium," The Quarterly Journal of Economics, MIT Press, vol. 105(2), pages 285-319, May.
  14. Becsi, Zsolt & Li, Victor E. & Wang, Ping, 2005. "Heterogeneous borrowers, liquidity, and the search for credit," Journal of Economic Dynamics and Control, Elsevier, vol. 29(8), pages 1331-1360, August.
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