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Institutions, Trade, and the Political Economy of Financial Development

  • Roland Hodler

We study how financial development depends on trade openness and different types of institutions. In our model the elite can repress the financial market to keep their capital costs low and to preclude ordinary citizens from producing capital-intensive goods. Financial repression thus raises the price of these goods under autarky. For most world market prices, trade openness therefore makes financial repression less attractive and increases financial development. Better political institutions increase financial development by making financial repression more costly for the elite. Better contracting institutions have countervailing effects on financial development. These predictions are consistent with the existing empirical evidence.

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Article provided by Mohr Siebeck, Tübingen in its journal Journal of Institutional and Theoretical Economics.

Volume (Year): 167 (2011)
Issue (Month): 3 (September)
Pages: 445-464

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Handle: RePEc:mhr:jinste:urn:sici:0932-4569(201109)167:3_445:itatpe_2.0.tx_2-5
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  1. Rafael La Porta & Florencio Lopez-de-Silane & Andrei Shleifer & Robert W. Vishny, 1997. "Legal Determinants of External Finance," NBER Working Papers 5879, National Bureau of Economic Research, Inc.
  2. Badi H. Baltagi & Panicos O. Demetriades & Siong Hook Law, 2008. "Financial Development and Openness: Evidence from Panel Data," Center for Policy Research Working Papers 107, Center for Policy Research, Maxwell School, Syracuse University.
  3. Nils Herger & Roland Hodler & Michael Lobsinger, 2007. "What determines Financial Development? Culture, Institutions, or Trade," DEGIT Conference Papers c012_033, DEGIT, Dynamics, Economic Growth, and International Trade.
  4. Svetlana Andrianova & Panicos Demetriades & Anja Shortland, 2006. "Government Ownership of Banks, Institutions, and Financial Development," WEF Working Papers 0011, ESRC World Economy and Finance Research Programme, Birkbeck, University of London.
  5. Sourafel Girma & Anja Shortland, 2008. "The political economy of financial development," Oxford Economic Papers, Oxford University Press, vol. 60(4), pages 567-596, October.
  6. Yongfu Huang & Jonathan Temple, 2005. "Does external trade promote financial development?," Bristol Economics Discussion Papers 05/575, Department of Economics, University of Bristol, UK.
  7. Ross Levine, 2004. "Finance and Growth: Theory and Evidence," NBER Working Papers 10766, National Bureau of Economic Research, Inc.
  8. Efraim Benmelech & Tobias J. Moskowitz, 2007. "The Political Economy of Financial Regulation: Evidence from U.S. State Usury Laws in the 19th Century," NBER Working Papers 12851, National Bureau of Economic Research, Inc.
  9. Aizenman, Joshua, 2008. "On the hidden links between financial and trade opening," Journal of International Money and Finance, Elsevier, vol. 27(3), pages 372-386, April.
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