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Financial structures and economic development

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  • Levine, Ross

Abstract

The author constructs a model that captures the two-way nature of the relationship between financial and economic development - and allows societies at different levels of economic development and with different policies to choose different financial services. In this model, various types of financial contracts and institutions arise in response to the economic environment. Incentives for financial structures to emerge are generated by liquidity and productivity risk, the costs of gathering information and mobilizing resources, and the costs of financial transactions. The emergence and development of financial arrangements in response to the economic environment can alter investment decisions and per capita growth rates - while the level of per capita income helps determine the types of financial services a particular society chooses to develop and use. The author not only reconciles more empirical regularities than past theoretical studies have done, but highlights the role of public policies on financial activities. Policy has important implications for the rate of economic growth, the level of financial development, and the types of institutions providing financial services. The model also predicts that per capita growth rates should be related to the types of financial services provided by the financial sector. Thus, the most common empirical measure of financial development may not appropriately capture fundamental features of financial development.

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Bibliographic Info

Paper provided by The World Bank in its series Policy Research Working Paper Series with number 849.

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Date of creation: 29 Feb 1992
Date of revision:
Handle: RePEc:wbk:wbrwps:849

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Related research

Keywords: Economic Theory&Research; Environmental Economics&Policies; Banks&Banking Reform; Financial Intermediation; Governance Indicators;

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References

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  1. Rebelo, Sergio, 1991. "Long-Run Policy Analysis and Long-Run Growth," Journal of Political Economy, University of Chicago Press, vol. 99(3), pages 500-521, June.
  2. King, R.G. & Rebelo, S., 1988. "Public Policy And Economic Growth: Developing Neoclassical Implications," RCER Working Papers 225, University of Rochester - Center for Economic Research (RCER).
  3. Gertler, Mark, 1988. "Financial Structure and Aggregate Economic Activity: An Overview," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 20(3), pages 559-88, August.
  4. Greenwood, J. & Jovanovic, B., 1988. "Financial Development, Growth, And The Distribution Of Income," RCER Working Papers 131, University of Rochester - Center for Economic Research (RCER).
  5. Diamond, Douglas W, 1984. "Financial Intermediation and Delegated Monitoring," Review of Economic Studies, Wiley Blackwell, vol. 51(3), pages 393-414, July.
  6. Seward, James K, 1990. " Corporate Financial Policy and the Theory of Financial Intermediation," Journal of Finance, American Finance Association, vol. 45(2), pages 351-77, June.
  7. Booth, James R. & Smith, Richard II, 1986. "Capital raising, underwriting and the certification hypothesis," Journal of Financial Economics, Elsevier, vol. 15(1-2), pages 261-281.
  8. Romer, Paul M, 1986. "Increasing Returns and Long-run Growth," Journal of Political Economy, University of Chicago Press, vol. 94(5), pages 1002-37, October.
  9. Megginson, William L & Weiss, Kathleen A, 1991. " Venture Capitalist Certification in Initial Public Offerings," Journal of Finance, American Finance Association, vol. 46(3), pages 879-903, July.
  10. Bencivenga, Valerie R & Smith, Bruce D, 1991. "Financial Intermediation and Endogenous Growth," Review of Economic Studies, Wiley Blackwell, vol. 58(2), pages 195-209, April.
  11. Lucas, Robert Jr., 1988. "On the mechanics of economic development," Journal of Monetary Economics, Elsevier, vol. 22(1), pages 3-42, July.
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