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City Size and Financial Development

Author

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  • Becker, Bo

    () (University of Illinois at Urbana-Champaign)

Abstract

Stock markets tend to be few in each country, often unique, and located in the largest cities. Typically, much of the economic activity relating to the stock market takes places in this large city. These facts suggest that agglomeration economies are important. In other words, productivity is enhanced for stock market-workers and -firms located in a large city. After discussing this prima facie evidence of agglomeration economies, we consider the cross-country implications. Countries with larger cities will have better developed stock markets because they can benefit from stronger agglomeration economies surrounding the stock market. This provides an economic theory of financial development which is complementary to the standard legal and political theories of financial development. We establish that city size is a robust determinant of stock market size and activity, but not of other types of financial development (banks). We show that this is not driven by reverse causality and that it is not driven by small or new stock markets. Finally, we show that alternative measures of a country's geography, such as urbanization and the population of the second largest city, do not predict stock market development, implying that we do not capture some alternative geographic effect. We conclude that there is a significant positive effect of city size on stock market development, that this reflects agglomeration economies. This explains why countries with large cities have better developed stock markets.

Suggested Citation

  • Becker, Bo, 2006. "City Size and Financial Development," SIFR Research Report Series 46, Institute for Financial Research.
  • Handle: RePEc:hhs:sifrwp:0046
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    References listed on IDEAS

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    Cited by:

    1. Benjamin E. Hermalin & Michael S. Weisbach, 2012. "Information Disclosure and Corporate Governance," Journal of Finance, American Finance Association, vol. 67(1), pages 195-234, February.
    2. Ridhwan, M.M. & Nijkamp, P. & Rietveld, P., 2008. "Regional development and monetary policy : a review of the role of monetary unions, capital mobility and locational effects," Serie Research Memoranda 0007, VU University Amsterdam, Faculty of Economics, Business Administration and Econometrics.
    3. Dreber, Anna & Rand, David G. & Garcia, Justin R. & Wernerfelt, Nils & Lum, J. Koji & Zeckhauser, Richard, 2010. "Dopamine and Risk Preferences in Different Domains," Working Paper Series rwp10-012, Harvard University, John F. Kennedy School of Government.
    4. Rydqvist, Kristian, 2010. "Tax Arbitrage with Risk and Effort Aversion - Swedish Lottery Bonds 1970-1990," SIFR Research Report Series 70, Institute for Financial Research.

    More about this item

    Keywords

    City size; agglomeration economies; financial development;

    JEL classification:

    • G10 - Financial Economics - - General Financial Markets - - - General (includes Measurement and Data)
    • G20 - Financial Economics - - Financial Institutions and Services - - - General
    • O16 - Economic Development, Innovation, Technological Change, and Growth - - Economic Development - - - Financial Markets; Saving and Capital Investment; Corporate Finance and Governance
    • R10 - Urban, Rural, Regional, Real Estate, and Transportation Economics - - General Regional Economics - - - General

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