nep-fdg New Economics Papers
on Financial Development and Growth
Issue of 2019‒01‒14
six papers chosen by
Georg Man

  1. Oil Price Volatility, Financial Institutions and Economic Growth By , Kamiar Mohaddes; Uchechukwu Jarrett; Hamid Mohtadi
  2. Euro Area Growth and European Institutional Reforms By Mariarosaria Comunale; Francesco Paolo Mongelli
  3. The Quest for Pro-poor and Inclusive Growth: The Role of Governance By Djeneba Doumbia
  4. Financial Frictions, Cyclical Fluctuations, and the Growth Potential of New Firms By Christoph Albert; Andrea Caggese
  5. The Fall in UK Potential Output due to the Financial Crisis: a Much Bigger Estimate By Crafts, Nicholas Author-workplace-Name: CAGE, University of Warwick
  6. Does Financial Sector Development Augment Cross Border Capital Flows? By Pragya Atri; Abhijit Sen Gupta

  1. By: , Kamiar Mohaddes (University of Cambridge); Uchechukwu Jarrett; Hamid Mohtadi
    Abstract: Theory attributes finance with the ability to both promote growth and reduce output volatility. But evidence is mixed in both regards, partly due to endogeneity effects. For example, financial institutions themselves might be a source of volatility, as the events of 2008 suggest. We address this endogeneity issue by using oil price volatility as a source of exogenous volatility, to study the effect of finance. To do this, we use two empirical methodologies. First, we develop a quasi-natural experiment by studying the dramatic decline of oil prices in 2014 and beyond, using a synthetic control methodology. Our hypothesis is that the ability of oil-rich countries to mitigate the effects of this decline rested on the quality of their financial institutions. We focus on 11 oil-rich countries between 1980 and 2014 that had “poor” measures of financial development (treatment group) out of 20 such countries and synthetically create counterfactuals from the remaining (control) group with “superior” financial development. We subject both to the oil price shock of 2014. We find evidence that better financial institutions do indeed reduce output volatility and mitigate its negative effect on growth in the year that showed a sustained decline of the oil price. To address any remaining potential endogeneity between oil prices and finance, we further examine our findings by using a Panel CS-ARDL approach with 30 oil producing countries in our sample (and data over the period 1980-2016), illustrating that the effect of oil price volatility on growth is mitigated with better financial institutions. Our results make a strong case for the support of the positive role of financial development in growth and development.
    Date: 2018–10–10
  2. By: Mariarosaria Comunale (Bank of Lithuania and European Central Bank); Francesco Paolo Mongelli (European Central Bank and Johann Wolfgang Goethe University of Frankfurt)
    Abstract: Euro area countries have experienced profound economic, financial and institutional changes over the last three decades. GDP growth has been very volatile, and very uneven, across countries. Which factors played a role in stirring growth and/or reducing it? We provide an atheoretical toolkit looking at a large set of real, financial, monetary and institutional variables, as possible factors behind fluctuations and differences in growth rates among euro area countries since 1990. The main outcome stresses the key positive role for long-run growth of higher European institutional integration, overall and for the periphery in specific. This result is robust across specifications and setups. If we split the European institutional integration in its main components, we can see a significant positive role for financial and political integration in the long-run. However the first seems to have beneficial effects for the core only while the opposite holds for the political integration which influences positively the periphery.
    Keywords: euro area, GDP growth, monetary policy, fiscal policy, institutional integration, financial crisis, systemic stress, synchronization
    JEL: C23 E40 F33 F43
    Date: 2019–01–02
  3. By: Djeneba Doumbia (PJSE - Paris Jourdan Sciences Economiques - UP1 - Université Panthéon-Sorbonne - ENS Paris - École normale supérieure - Paris - INRA - Institut National de la Recherche Agronomique - EHESS - École des hautes études en sciences sociales - ENPC - École des Ponts ParisTech - CNRS - Centre National de la Recherche Scientifique, PSE - Paris School of Economics, The World Bank - The World Bank - The World Bank)
    Abstract: This paper analyses the role of good governance in fostering pro-poor and inclusive growth. Using a sample of 112 countries over 1975–2012, it shows that growth is generally pro-poor. However, growth has not been inclusive, as illustrated by a decline in the bottom 20 percent of the income distribution. While all features of good governance support income growth and reduce poverty, only government effectiveness and the rule of law are found to enhance inclusive growth. The investigation of the determinants of pro-poor and inclusive growth highlights that education, infrastructure improvement, and financial development are the key factors in poverty reduction and inclusive growth. Relying on the panel smooth transition regression (PSTR) model following Gonzalez, Tersvirta and Dijk (2005), the paper identifies a nonlinear relationship between governance and pro-poor growth, while the impact of governance on inclusive growth appears to be linear.
    Keywords: Pro-poor growth,Inclusive growth,Governance,PSTR
    Date: 2018–11
  4. By: Christoph Albert; Andrea Caggese
    Abstract: We develop a model in which entrepreneurs choose between startup types with heterogeneous short- and long-run growth potential, and we generate testable predictions on the differential effects of financial factors and cyclical fluctuations on these startups. Using a multi-country entrepreneurship survey, we find that, consistent with the model, higher borrowing costs during financial crises negatively affect high-growth startups considerably more than low-growth startups, especially during severe downturns. Our results, supported by additional tests using sector-level financial frictions indicators, uncover a new channel that is potentially important to explain slow recoveries after financial crises.
    Keywords: financial crisis, entrepreneurship
    JEL: E20 E32 D22 J23 M13
    Date: 2018–12
  5. By: Crafts, Nicholas Author-workplace-Name: CAGE, University of Warwick
    Abstract: Conventional estimates suggest that the 2007-9 financial crisis reduced UK potential output by 3.8 to 7.5 per cent of GDP. This implied a need for fiscal tightening as the structural budget deficit had increased considerably. The austerity that followed led to the rise of UKIP, the EU referendum and the vote for Brexit. Brexit will reduce potential output by somewhere between 3.9 and 8.7 per cent of GDP. Thus, it can be argued that the total fall in UK potential output due to the banking crisis is approximately double the conventional estimate.
    Keywords: austerity, Brexit, financial crisis, potential output JEL Classification: F15, G01, H12, O47.
    Date: 2019
  6. By: Pragya Atri (Jawaharlal Nehru University); Abhijit Sen Gupta (Asian Development Bank)
    Abstract: The sharp increase in volatility of capital flows in recent years has resulted in many countries altering the regulations governing the flow of foreign capital only to find such changes having a limited impact. We postulate that one reason for the limited effectiveness of such changes in regulations is the level of financial sector development in the country. As a country enhances its level of financial sector development, it also develops more and more sophisticated financial instruments. The more advanced the domestic financial instruments are, and the deeper is the integration of the domestic financial markets with the world markets, the greater is the likelihood of developing strategies to bypass capital account management measures. In this paper, we undertake various empirical techniques to identify the impact of financial sector development on capital flows, accounting for regulatory regime. The empirical results indicate that there is a threshold effect in the financial sector development capital flow relationship. In particular, financial sector development augments greater integration with global capital flows only above a threshold level. Below the threshold level we find financial development reduces the extent of integration with global capital markets. Length: 34 pages

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