nep-fdg New Economics Papers
on Financial Development and Growth
Issue of 2009‒11‒21
fifteen papers chosen by
Iulia Igescu
Global Insight, GmbH

  1. Are the Direct and Indirect Growth Effects of Remittances Significant? By Rao, B. Bhaskara; Hassan, Gazi
  2. Growth and the pollution convergence hypothesis: a nonparametric approach. By C. Ordás Criado; S. Valente; T. Stengos
  3. The Effect of Capital Market Liberalization in Eastern Europe: Economic Growth or Financial Crisis By Lavinia Cristescu
  4. Do Institutions Rule? The Role of Heterogeneity in the Institutions vs. Geography Debate By Andros Kourtellos; Thanasis Stengos; Chih Ming Tan
  5. Small firms, growth and financial constraints By Agustí Segarra; Mercedes Teruel
  6. The Real Effect of Financial Crises in the European Transition Economies By Davide Furceri; Aleksandra Zdzienicka
  7. Is an Undervalued Currency the Key to Economic Growth? By Michael Woodford
  8. Romes without Empires: Urban Concentration, Political Competition, and Economic Growth By Cem Karayalcin; Mehmet Ali Ulubasoglu
  9. The Real Effect of Financial Crises in the European Transition Economies By Davide Furceri; Aleksandra Zdzienicka-Durand
  10. Infrastructures and economic performance: a critical comparison across four approaches By Torrisi, Gianpiero
  11. Financial crises and the evaporation of trust By Kartik Anand; Prasanna Gai; Matteo Marsili
  12. Credit Booms Gone Bust: Monetary Policy, Leverage Cycles and Financial Crises, 1870–2008 By Moritz Schularick; Alan M. Taylor
  13. Growing at the Production Frontier. European Aggregate Growth, 1870-1914 By Albert Carreras; Camilla Josephson
  14. Saving, Investment, Greed, and Original Accumulation Do Not Explain Growth By McCloskey, Deirdre
  15. Fiscal Policy during the current Crisis By Bunea-Bontas, Cristina Aurora; Petre, Mihaela Cosmina

  1. By: Rao, B. Bhaskara; Hassan, Gazi
    Abstract: Development economists believe that migrant workers’ remittances are an important source of funds for long run growth. Therefore, recent studies have investigated the growth effects of remittances and reached different conclusions. In many such studies the growth of output is simply regressed on both remittances and the channels through which remittances affect growth. Thus there is no distinction between the indirect and direct growth effects of remittances and such specifications may give unreliable estimates because of the correlation between the channels and remittances. In this paper we make a distinction between the indirect and direct effects of remittances. Our model is estimated with panel data of 40 high remittance recipient countries and a system GMM panel data estimation method.
    Keywords: Remittances; Growth; Panel Data; System GMM
    JEL: F22 O16 F43
    Date: 2009–11–15
  2. By: C. Ordás Criado (Center for Energy Policy and Economics (CEPE)); S. Valente (Center of Economic Research (CER)); T. Stengos (Department of Economics, University of Guelph.)
    Abstract: The pollution-convergence hypothesis is formalized in a neoclassical growth model with optimal emissions reduction: pollution growth rates are positively correlated with output growth (scale effect) but negatively correlated with emission levels (defensive effect). This dynamic law is empirically tested for two major and regulated air pollutants - nitrogen oxides (NOX) and sulfur oxides (SOX) - with a panel of 25 European countries spanning over years 1980-2005. Traditional parametric models are rejected by the data. However, more flexible regression techniques - semiparametric additive specifications and fully nonparametric regressions with discrete and continuous factors - confirm the existence of the predicted positive and defensive effects. By analyzing the spatial distributions of per capita emissions, we also show that cross-country pollution gaps have decreased over the period for both pollutants and within the Eastern as well as the Western European areas. A Markov modeling approach predicts further cross-country absolute convergence, in particular for SOX. The latter results hold in the presence of spatial non-convergence in per capita income levels within both regions.
    Keywords: Air pollution, convergence, economic growth, mixed nonparametric regressions, distribution dynamics.
    JEL: C14 C23 Q53
    Date: 2009
  3. By: Lavinia Cristescu
    Abstract: The last 20 years have witnessed the financial liberalization of equity markets across the world which have opened the international financing path and resulted in risk diversification, capital cost decreases and investment growth. However, liberalization may have negative effects as well. It often played an important role in the incidence of banking and currency crises by increasing macroeconomic volatility to external shocks. The connection between financial fragility and economic growth can be associated with capital market liberalization. The main aim of this paper is to analyze the effect of financial liberalization in thirteen of Eastern Europe countries, by bringing these two views together. Many of the countries analyzed are post-communist economies that have been in transition in the selected period 1995 – 2007.
    Keywords: capital market liberalization, economic growth
    Date: 2009–10
  4. By: Andros Kourtellos (Department of Economics,University of Cyprus); Thanasis Stengos (Department of Economics, University of Guelph); Chih Ming Tan (Department of Economics,Tufts University)
    Abstract: We uncover evidence of substantial heterogeneity in the growth experience of countries using a structural threshold regression methodology. Our findings suggest that studies that seek to promote mono-causal explanations in the institutions versus geography debate in growth are potentially misleading.
    Keywords: Threshold Regression, Endogenous Threshold Variables, Growth, Institutions, Geography.
    JEL: C21 C51 O47 O43
    Date: 2009
  5. By: Agustí Segarra (GRIT, Universitat Rovira Virgili); Mercedes Teruel (GRIT, Universitat Rovira Virgili)
    Abstract: This paper analyses the impact of different sources of finance on the growth of firms. Using panel data from Spanish manufacturing firms for the period 2000-2006, we investigate the effects of internal and external finances on firm growth. In particular, we examine three dimensions of these financial sources: a) the performance of the firms’ capital structure in accordance with firm size; b) the effects of internal and external financial sources on growth performance; c) the combined effect of equity, external debt and cash flow on firm growth. We find that low-growth firms are sensitive to cash flow and short-term bank debt, while high-growth firms are more sensitive to long-term debt. Furthermore, equity capital seems to reduce barriers to external finance. Our main conclusion is that during the start-up phase, firms are unable to increase their financial leverage and so their capital structure fails to promote correct investment strategies. However, as their equity capital increases, alternative financial mechanisms, in particular long-term debt, become available, which have a positive impact on firm growth.
    Keywords: firm growth, small firms.
    JEL: L25 R12
    Date: 2009–10
  6. By: Davide Furceri (OECD and University of Palermo); Aleksandra Zdzienicka (GATE-CNRS/ENS LSH, University of Lyon, France)
    Abstract: The aim of this work is to assess the impact of financial crises on output for 11 European transition economies (CEECs). The results suggest that financial crises have a significant and permanent effect, lowering long-term output by about 17 percent. The effect is more important in smaller countries, with relative higher dependence on external financing, and in which the banking sector noticed more important financial disequilibria. We also found that fiscal policy measures have been the most efficient tools in dealing with the crises, while the role of monetary policy instruments has been rather blinded. Exchange rate resulted to be more a propagator than a crises absorber, while the IMF credit has been found to have positive (but not significant) impact on growth performance. Finally, the effect for the CEECs is much bigger than in the EU advanced economies, for which we found that financial crises lowers long-term output only by 2 percent.
    Keywords: Output Growth, Financial Crisis, CEECs.
    JEL: G1 E6
    Date: 2009
  7. By: Michael Woodford (Columbia University - Department of Economics)
    Abstract: Dani Rodrik (2008) offers a provocative argument for policies that seek to maintain an "undervalued" exchange rate in order to promote economic growth. The key to his argument is the empirical evidence that he presents, indicating correlation of his measure of undervaluation with economic growth in cross-country panel regressions. Rodrik does not really discuss the measures that should be undertaken to maintain an undervalued exchange rate, and whether it is likely that a country that pursues undervaluation as a growth strategy should be able to maintain persistent undervalu- ation. For example, he remarks (as justification for interest in the question of a causal effect of undervaluation on growth) that "one of the key findings of the open-economy macro literature is that nominal exchange rates and real exchange rates move quite closely together." But while this is true, and while it is widely interpreted as indicat- ing that monetary policy can affect real exchange rates (since it can obviously move nominal rates), it hardly follows that monetary policy alone can maintain a weak real exchange rate for long enough to serve as part of a long-run growth strategy. Indeed, conventional theoretical models with short-run price stickiness, that are perfectly consistent with the observed short-run effects of monetary policy on real exchange rates, imply that monetary policy should not have long-run effects on real exchange rates. Rodrik also cites evidence showing that sterilized interventions in the foreign-exchange market can affect real exchange rates. But economic theory suggests that interventions not associated with any change in current or subsequent monetary policy should have even more transitory effects. And the experiences of countries that have sought to use devaluation to boost economic growth have often found that the real exchange rate effect of a nominal devaluation is not long-lasting. Nonetheless, the point of the paper is to provide evidence that undervaluation favors growth, on the assumption that policies to maintain undervaluation are avail- able, and it is that central contention that I shall examine here. I find the evidence less persuasive than the paper suggests, for two reasons. First, I believe that the paper exaggerates the strength and robustness of the association between the real exchange rate and growth in the cross-country evidence. And second, even granting the existence of such a correlation, a causal effect of real exchange rates on growth is hardly the only possible interpretation.
    Date: 2009
  8. By: Cem Karayalcin; Mehmet Ali Ulubasoglu
    Abstract: Many developing economies are characterized by the dominance of a super metropolis. Taking historical Rome as the archetype of a city that centralizes political power to extract resources from the rest of the country, we develop two models of rent-seeking and expropriation which illustrate different mechanisms that relate political competition to economic outcomes. The "voice" model shows that rent-seeking by different interest groups (localized in different specialized cities/regions) will lead to low investment and growth when the number of such groups is small. The "exit" model allows political competition among those with political power (to tax or expropriate from citizens) over a footloose tax base. It shows that when this power is centralized in relatively few urban nodes, tax rates would be higher and growth rates lower. Our empirical work exploits the connection between urban wealth (with the political power it affords) and national soccer championships. By using a cross-country data set for 103 countries for the period 1960-99, we find strong and robust evidence that countries with higher concentrations in urban wealth-as proxied by the number of different cities with championships in national soccer leagues-tend to have lower long-run growth rates.
    Date: 2009–11–11
  9. By: Davide Furceri (OCDE - Organisation de coopération et de développement économiques - OCDE); Aleksandra Zdzienicka-Durand (GATE - Groupe d'analyse et de théorie économique - CNRS : UMR5824 - Université Lumière - Lyon II - Ecole Normale Supérieure Lettres et Sciences Humaines)
    Abstract: The aim of this work is to assess the impact of financial crises on output for 11 European transition economies (CEECs). The results suggest that financial crises have a significant and permanent effect, lowering long-term output by about 17 percent. The effect is more important in smaller countries, with relative higher dependence on external financing, and in which the banking sector noticed more important financial disequilibria. We also found that fiscal policy measures have been the most efficient tools in dealing with the crises, while the role of monetary policy instruments has been rather blinded. Exchange rate resulted to be more a propagator than a crises absorber, while the IMF credit has been found to have positive (but not significant) impact on growth performance. Finally, the effect for the CEECs is much bigger than in the EU advanced economies, for which we found that financial crises lowers long-term output only by 2 percent.
    Keywords: Output Growth ; Financial Crisis ; CEECs
    Date: 2009
  10. By: Torrisi, Gianpiero
    Abstract: The paper reviews studies analysing the relationship between infrastructures and economic performance. Four different approaches are separately considered along an ideal path from theory-based to data-oriented models: the production function approach, the cost function approach, growth-models, and vector autoregression models. The review shows that, even with different shades and points of caution, the general idea that infrastructure has an economic enhancing effect appears to be quite robust across studies belonging to different methodological approaches.
    Keywords: economic development; growth; public expenditure; public infrastructure
    JEL: H54 O11 H72
    Date: 2009–11
  11. By: Kartik Anand; Prasanna Gai; Matteo Marsili
    Abstract: Trust lies at the crux of most economic transactions, with credit markets being a notable example. Drawing on insights from the literature on coordination games and network growth, we develop a simple model to clarify how trust breaks down in financial systems. We show how the arrival of bad news about a financial agent can lead others to lose confidence in it and how this, in turn, can spread across the entire system. Our results emphasize the role of hysteresis -- it takes considerable effort to regain trust once it has been broken. Although simple, the model provides a plausible account of the credit freeze that followed the global financial crisis of 2007/8, both in terms of the sequence of events and the measures taken (and being proposed) by the authorities.
    Date: 2009–11
  12. By: Moritz Schularick; Alan M. Taylor
    Abstract: The crisis of 2008–09 has focused attention on money and credit fluctuations, financial crises, and policy responses. In this paper we study the behavior of money, credit, and macroeconomic indicators over the long run based on a newly constructed historical dataset for 12 developed countries over the years 1870– 2008, utilizing the data to study rare events associated with financial crisis episodes. We present new evidence that leverage in the financial sector has increased strongly in the second half of the twentieth century as shown by a decoupling of money and credit aggregates, and we also find a decline in safe assets on banks' balance sheets. We also show for the first time how monetary policy responses to financial crises have been more aggressive post-1945, but how despite these policies the output costs of crises have remained large. Importantly, we can also show that credit growth is a powerful predictor of financial crises, suggesting that such crises are “credit booms gone wrong” and that policymakers ignore credit at their peril. It is only with the long-run comparative data assembled for this paper that these patterns can be seen clearly.
    JEL: E44 E51 E58 G20 N10 N20
    Date: 2009–11
  13. By: Albert Carreras; Camilla Josephson
    Abstract: The view of a 1870-1913 expanding European economy providing increasing welfare to everybody has been challenged by many, then and now. We focus on the amazing growth that was experienced, its diffusion and its sources, in the context of the permanent competition among European nation states. During 1870-193 the globalized European economy reached a “silver age”. GDP growth was quite rapid (2.15% per annum) and diffused all over Europe. Even discounting the high rates of population growth (1.06%), per capita growth was left at a respectable 1.08%. Income per capita was rising in every country, and the rates of improvement were quite similar. This was a major achievement after two generations of highly localized growth, both geographically and socially. Growth was based on the increased use of labour and capital, but a good part of growth (73 per cent for the weighted average of the best documented European countries) came out of total factor productivity –efficiency gains resulting from not well specified ultimate sources of growth. This proportion suggests that the European economy was growing at full capacity –at its production frontier. It would have been very difficult to improve its performance. Within Europe, convergence was limited, and it only was in motion after 1900. What happened was more the end of the era of big divergence rather than an era of convergence.
    Keywords: Economic history, aggregate growth, total factor productivity, comparative national patterns, Europe
    JEL: E01 N10 N13 O47 O52
    Date: 2009–10
  14. By: McCloskey, Deirdre
    Abstract: Thrift was not the cause of the Industrial Revolution or its astonishing follow on. For one thing, every human society must practice thrift, and pre-industrial Europe, with its low yield-seed ratios, did so on a big scale. British thrift during the Industrial Revolution, for another, was rather below the European average. And for still another, savings is elastically supplied, by credit expansion for example (as Schumpeter observed). Attributing growth to investment, therefore, resembles attributing Shakespeare’s plays to the Roman alphabet: “necessary” in a reduced sense, but in fact an assumed background, not the cause in any useful sense. Certainly Europeans did not develop unusual greed, and the Catholics---in a society of bourgeois dignity and liberty---did as well as the Protestants (in Amsterdam, for example). Ben Franklin, for example, was not (as D. H. Lawrence portrayed him in a humorless reading of this most humorous man) “dry and utilitarian.” If capitalism accumulates “endlessly,” as many say, one wonder why Franklin give up accumulating at age 42. The evidence also does not support Marx’s notion of an “original accumulation of capital.” Saving and investment must be used when they are made, or they depreciate. They cannot accumulate from an age of piracy to an age of industry. Yet modern growth theory, unhappily, reinstates as initiating the theory of stages and, especially, capital accumulation. They are not initiating, whether in physical or human capital. Innovation 1700-2010 pushed the marginal product of all capitals steadily out, and the physical and human capital followed.
    Keywords: Industrial Revolution; thrift; Europe; capital accumulation; innovation; growth theory; economic history; saving; investment; bourgeois dignity; human capital; physical capital
    JEL: N10 N11 N13 N0
    Date: 2009–07–07
  15. By: Bunea-Bontas, Cristina Aurora; Petre, Mihaela Cosmina
    Abstract: Fiscal policy is an important government tool for managing the economy, having the ability to affect the total amount of output produced - GDP. Changes in the level and composition of government spending, taxation or other instruments of fiscal policy have impact on aggregate demand, the pattern of resource allocation, and the distribution of income. The article shows the mechanisms through which fiscal policy stabilizes the business cycle, and the specific requirements for fiscal policy during recession; the practical problems that may occur in implementing an effective fiscal policy are emphasized. Regarding the circumstances of the current financial and economic crises, the revival of the fiscal policy as a macroeconomic policy faces high expectations as to what it can accomplish. The paper highlights the composition of fiscal stimulus package, and reviews the specific fiscal stimulus plans adopted so far by different countries and their objectives. The final section contains an overview of the Romanian government response to the current crises, regarding fiscal policy. The conclusion is that Romania has conducted an inconsistent and ineffective fiscal policy, which has contributed to macro-economic and fiscal imbalances and to an increased fiscal pressure on business. Therefore, a medium-term fiscal framework has to be implemented, in order to ensure effectiveness and fiscal sustainability.
    Keywords: fiscal policy; automatic stabilizers; discretionary fiscal policy; fiscal stimulus; government spending; taxation
    JEL: E62 E65 E63
    Date: 2009–11–13

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