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Liquidity, innovation and growth

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Author Info
Aleksander Berentsen
Mariana Rojas Breu
Shouyong Shi

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Abstract

Many countries simultaneously suffer from high rates of inflation, low growth rates of per capita income and poorly developed financial sectors. In this paper, we integrate a microfounded model of money and finance into a model of endogenous growth to examine the effects of inflation and financial development. A novel feature of the model is that the market for innovation goods is decentralized. Financial intermediaries arise endogenously to provide liquid funds to the innovation sector. We calibrate the model to address two quantitative issues. One is the effects of an exogenous improvement in the productivity of the financial sector on welfare and per capita growth. The other is the effects of inflation on welfare and growth. Consistent with the data but in contrast to previous work, reducing inflation generates large gains in the growth rate of per capita income as well as in welfare. Relative to reducing inflation, improving the efficiency of the financial market increases growth and welfare by much smaller amounts.

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Paper provided by Institute for Empirical Research in Economics - IEW in its series IEW - Working Papers with number iewwp441.

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Date of creation: Sep 2009
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Handle: RePEc:zur:iewwpx:441

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Keywords: Money; Credit; Innovation; Growth;

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