nep-fdg New Economics Papers
on Financial Development and Growth
Issue of 2021‒04‒26
23 papers chosen by
Georg Man

  1. The Role of Institutional Infrastructures in Financial Inclusion-Growth Relations: Evidence from SSA By Ajide, Kazeem; Raheem, Ibrahim; Alimi, Olorunfemi; Asongu, Simplice
  2. Financial Sector Development and Investment in Selected ECOWAS Countries: Empirical Evidence using Heterogeneous Panel Data Method By Iheonu, Chimere; Asongu, Simplice; Odo, Kingsley; Ojiem, Patrick
  3. The Bright and Dark Side of Financial Support from Local and Central Banks after a Natural Disaster: Evidence from the Great Kanto Earthquake, 1923 Japan By Tetsuji Okazaki; Toshihiro Okubo; Eric Strobl
  4. Do institutional transplants succeed? Regulating raiffeisen cooperatives in South India, 1930-1960 By Nath, Maanik
  5. Financial crisis, financial globalisation and financial development in Africa By Asongu, Simplice; Nnanna, Joseph
  6. Economic depression in Brazil: the 2014-2016 fall By Brinca, Pedro; Costa-Filho, João
  7. Public capital and income inequality: some empirical evidence By Li, Y.; Murshed, S.M.; Papyrakis, E.
  8. The Environmental Unsustainability of Public Debt: Non-Renewable Resources, Public Finances Stabilization and Growth By Nicolas Clootens; Francesco Magris
  9. Should we fear transition risks - A review of the applied literature By Louis Daumas
  10. Do Intermediaries Matter for Aggregate Asset Prices? By Valentin Haddad; Tyler Muir
  11. Tackling the Volatility Paradox: Spillover Persistence and Systemic Risk By Christian Kubitza
  12. Interdependent Capital Structure Choices and the Macroeconomy By Gomez-Gonzalez, Jose Eduardo; Uribe, Jorge M.; Hirs-Garzon, Jorge
  13. Foreign investors and target firms’ financial structure: cavalry or locusts? By Lorenzo Bencivelli; Beniamino Pisicoli
  14. Exploring the Macroeconomic Drivers of International Bilateral-Remittance Flows: A Gravity-Model Approach By Giorgio Fagiolo; Tommaso Rughi
  15. Explaining the Volatility of the Real Exchange Rate in Emerging Markets By Manuel Agosin; Juan D. Díaz
  16. Optimal Foreign Reserves and Central Bank Policy Under Financial Stress By Luis Felipe Céspedes; Roberto Chang
  17. Finance, inequality and inclusive education in Sub-Saharan Africa By Asongu, Simplice; Nnanna, Joseph; Acha-Anyi, Paul
  18. Finance, Governance and Inclusive Education in Sub-Saharan Africa By Asongu, Simplice; Odhiambo, Nicholas
  19. Venture Capitalists' Access to Finance and Its Impact on Startups By Chen, Jun; Ewens, Michael
  20. The importance of capital in losing the entrepreneurial gender gap: a longitudinal study of lottery wins By Sarah Flèche; Anthony Lepinteur; Nattavudh Powdthavee
  21. Closing the gender profit gap By Catia Batista; Sandra Sequeira; Pedro C. Vicente
  22. Understanding the greater diffusion of mobile money innovations in Africa By Asongu, Simplice; Biekpe, Nicholas; Cassimon, Danny
  23. M-Payments, Financial Inclusion, and Full Market Coverage By Vladimir A. Karamychev; Jean-Marie Viaene

  1. By: Ajide, Kazeem; Raheem, Ibrahim; Alimi, Olorunfemi; Asongu, Simplice
    Abstract: This paper investigates the role of institutional infrastructures in the financial inclusion-growth nexus for a panel of twenty countries in sub-Sahara Africa (SSA).Employing the System Generalized Method of Moments (GMM), the following insightful outcomes are established. First, while there is an unrestricted positive impact of physical access to ATMs and ICT measures of financial inclusion on SSA’s growth but only the former was found significant. Second, the four institutional components via economic, political, institutional and general governances were also found to be growth-spurring. Lastly, countries with low levels of real per capita income are matching up with other countries with high levels of real income per capita. The empirical evidence of some negative net effects and insignificant marginal impacts are indication that imperfections in the financial markets are sometimes employed to the disadvantage of the poor. On the whole, we established positive effects on growth for the most part. The positive effects are evident because the governance indicators compliment financial inclusion in reducing pecuniary constraints hindering credit access and allocation to the poor that deteriorate growth.
    Keywords: Financial Inclusion; Economic Growth; Governance; System Generalized Method of Moments (GMM)
    JEL: G20 I10 O40 P37
    Date: 2020–01
  2. By: Iheonu, Chimere; Asongu, Simplice; Odo, Kingsley; Ojiem, Patrick
    Abstract: This study investigated the impact of financial sector development on domestic investment in selected Economic Community of West African States (ECOWAS) countries for the years 1985 to 2017. The study employed the Augmented Mean Group procedure which accounts for country specific heterogeneity and cross sectional dependence, and the Granger non-causality test robust to cross sectional dependence. The result reveals that (1) the impact of financial sector development on domestic investment depends on the measure of financial sector development utilised, (2) domestic credit to the private sector has a positive but insignificant impact on domestic investment in ECOWAS while banking intermediation efficiency (i.e. ability of the banks to transform deposits into credit) and broad money supply negatively and significant influence domestic investment, (3) cross country differences exist on the impact of financial sector development on domestic investment in the selected ECOWAS countries, and (4) domestic credit to the private sector Granger causes domestic investment in ECOWAS. The study recommends cautiousness in terms of the measure of financial development which is being utilised as a policy instrument to foster domestic investment as well as the importance of employing country-specific domestic investment policies in order to avoid blanket policy measures. Also, domestic credit to the private sector should be given priority when forecasting domestic investment into the future.
    Keywords: Financial Sector Development; Domestic Investment; Augmented Mean Group; Granger non-causality test; ECOWAS
    JEL: C50 E20 E50 G0
    Date: 2020–01
  3. By: Tetsuji Okazaki (Graduate School of Economics, University of Tokyo, Japan); Toshihiro Okubo (Faculty of Economics, Keio University, Japan); Eric Strobl (Department of Economics, Bern University, Switzerland)
    Abstract: Natural disasters can seriously damage firms as well as the banks that they use independent of their size. However, it is small- and medium-sized firms in particular that will be affected by this because they tend to be financially constrained and thus greatly depend on these potentially damaged local banks for financing. In this paper, we focus on the Great Kanto Earthquake of 1923, which resulted in serious damage to small- and medium-sized firms and banks in Yokohama City, to investigate how effective the provision of loans by local banks, as well as the Earthquake Bills policy implemented by the Bank of Japan, was in helping firms recover. Using linked firm- and bank-level datasets, we find that larger local banks allowed damaged firms to survive and grow. The Earthquake Bills policy mitigated the negative impact of bank damage on firms and prevented credit crunch, although this deteriorated the balance sheet of local banks and resulted in financial instability and a banking crisis as a side effect.
    Date: 2021–04
  4. By: Nath, Maanik
    Abstract: The government in British-ruled India established cooperative banks to compete with private moneylenders in the rural credit market. State officials expected greater competition to increase the supply of low-cost credit, thereby expanding investment potential for the rural poor. Cooperatives did increase credit supply but captured a small share of the credit market and reported net losses throughout the late colonial and early postcolonial period. The article asks why this experiment did not succeed and offers two explanations. First, low savings restricted the role of social capital and mutual supervision as methods of financial regulation in the cooperative sector. Second, a political-economic ideology that privileged equity over efficiency made for weak administrative regulation.
    Keywords: agriculture; colonialism; India; institutional change; rural banking
    JEL: N25
    Date: 2021–03–16
  5. By: Asongu, Simplice; Nnanna, Joseph
    Abstract: This study unites two streams of research by simultaneously focusing on the impact of financial globalisation on financial development and pre- and post-crisis dynamics of the investigated relationship. The empirical evidence is based on 53 African countries for the period 2004-2011 and Generalised Method of Moments. The following findings are established. First, whereas marginal effects from financial globalisation are positive on financial dynamics of activity and size, corresponding net effects (positive thresholds) are negative (within range). Second, while decreasing financial globalisation returns are apparent to financial dynamics of depth and efficiency, corresponding net effects (negative thresholds) are positive (not within range). Third, financial development dynamics are more weakly stationary and strongly convergent in the pre-crisis period. Fourth, the net effect from the: pre-crisis period is lower on money supply and banking system efficiency; post-crisis period is positive on financial system efficiency and pre-crisis period is positive on financial size.
    Keywords: Banking; Financial crisis; Financial development
    JEL: F02 F21 F30 F40 O10
    Date: 2020–01
  6. By: Brinca, Pedro; Costa-Filho, João
    Abstract: What is behind the economic depression Brazil experienced within 2014-2016? Using a synthetic control estimations we find that its roots are domestic. With that in mind, we apply the business cycle accounting method and find that the episode was driven by the efficiency wedge. The econometric evidence reveals that the public development bank outlays have a positive (negative) impact in the short (long) run in the efficiency wedge. A dynamic general equilibrium model with financial frictions and a public development bank is able to reproduce the dynamics of output during the crisis.
    Keywords: Business Cycle Accounting, Brazil, DSGE, Financial Frictions
    JEL: E32 E44 E50
    Date: 2021–04–20
  7. By: Li, Y.; Murshed, S.M.; Papyrakis, E.
    Abstract: Economies vary in their reliance on public or private capital accumulation, and this variation has long been believed to lead to different distribution outcomes. In this paper, we take the share of public capital in total capital stock and public capital per GDP as the main explanatory variables. We then estimate the effect that capital ownership has on income inequality by using a panel data consisting of 145 economies in the period from 1980 to 2015. Our empirical results show that a higher ratio of public capital in total capital stock could lower the Gini coefficients of both original and disposable income distribution. Furthermore, we note that public capital per GDP is a sound measurement of public investment’s accumulative contribution to the economy and find that it reduces income inequality, while private capital per GDP affects income inequality in the opposite direction. Accounting for the heterogeneity in development level, we further find that the negative effect that public capital has on income inequality is much more salient among low- and middle-income countries.
    Date: 2021–04–15
  8. By: Nicolas Clootens (AMSE, Ecole Centrale Marseille); Francesco Magris (DEAMS, University of Trieste)
    Abstract: This paper introduces a public debt stabilization constraint in an overlapping generation model in which non-renewable resources constitute a necessary input in the production function and belong to agents. It shows that stabilization of public debt at high level (as share of capital) may prevent the existence of a sustainable development path. Public debt thus appears as a threat to sustainable development. It also shows that higher public debt-to-capital ratios (and public expenditures-to-capital ones) are associated with lower growth. Two transmission channels are identified. As usual, public debt crowds out capital accumulation. In addition, public debt tends to increase resource use which reduces the rate of growth. We also analyze the dynamics and we show that the economy is characterized by saddle path stability. Finally, we show that the public debt-to-capital ratio may be calibrated to implement the social planner optimal allocation.
    Keywords: Non-renewable Resources, Growth, Public Finances, Overlapping Generations,
    JEL: Q32 Q38 H63
    Date: 2021–06
  9. By: Louis Daumas (CIRED - Ecole des Ponts ParisTech)
    Abstract: The transition to a low-carbon economy will entail sweeping transformations of energy and economic systems. To such an extent that a growing literature has been worrying about the effect of such strain on the stability of financial system. This "financial transition risk" literature has highlighted that the conjunction of climate policy, technological change and changing consumption patterns may propagate to financial markets. If too brutal or unexpected, such dynamics may result in a "Climate-Minsky" moment of systemic implications. Yet, recent historical developments have shown that financial markets can prove resilient to shocks onto transition-exposed industries such as fossil fuel producers. Should we thus fear transition risks? To answer this question, I propose a critical review of the relevant applied modelling and econometric literatures. Three sub-fields will be examined: the asset stranding literature, the financial econometrics of the low-carbon transition and the direct assessment of transition risks through prospective models. I will expound some key results of these literatures, and critically assess underlying methodologies.
    Keywords: Review, Stranded Assets, Financial Stability, ,
    JEL: G01 Q50
    Date: 2021–04
  10. By: Valentin Haddad; Tyler Muir
    Abstract: Poor financial health of intermediaries coincides with low asset prices and high risk premiums. Is this because intermediaries matter for asset prices, or simply because their health correlates with economy-wide risk aversion? In the first case, return predictability should be more pronounced for asset classes in which households are less active. We provide evidence supporting this prediction, suggesting that a quantitatively sizable fraction of risk premium variation in several large asset classes such as credit or MBS is due to intermediaries. Movements in economy-wide risk aversion create the opposite pattern, and we find this channel also matters.
    JEL: G0 G01 G12
    Date: 2021–04
  11. By: Christian Kubitza (University of Bonn)
    Abstract: This paper proposes Spillover Persistence as a measure for financial fragility. The volatility paradox predicts that fragility builds up when volatility is low, which challenges existing measures. Spillover Persistence tackles this challenge by exploring a novel dimension of systemic risk: loss dynamics. I document that Spillover Persistence declines when fragility builds up, during the run-up phase of crises and asset price bubbles, and increases when systemic risk materializes. Variation in financial constraints connects Spillover Persistence to fragility. The results are consistent with the volatility paradox in recent macro-finance models, and highlight the usefulness of loss dynamics to disentangle fragility from amplification effects.
    Keywords: Systemic Risk, Fragility, Financial Crises, Asset Price Bubbles, Fire Sales
    JEL: E44 G01 G12 G20 G32
    Date: 2021–04
  12. By: Gomez-Gonzalez, Jose Eduardo; Uribe, Jorge M.; Hirs-Garzon, Jorge
    Abstract: This study shows that capital structure choices of US corporations are interdependent across time. We follow a two-step estimation approach. First, using a large cross-section of firms we estimate year-by-year average capital structure choices, i.e., the average firm’s percentage of new funding that is secured through debt, its term composition, and the percentage of new equity represented by retained earnings. Second, these time series are included in a Factor Augmented Vector Autoregressive model in which three factors representing real economic activity, expected future funding conditions, and prices, are included. We test for the interdependence between optimal capital structure decisions and for the influence exerted by macroeconomic conditions on these decisions. Results show there is a hierarchical order in which firms make capital structure decisions. They first decide on the share of debt out of total new funding they will hire. Conditional on this they decide on the term of their debt and on their earnings retention policy. Of outmost importance, macroeconomic factors are key for making capital structure decisions.
    Keywords: Firms' capital structure; Financing hierarchy; Macroeconomic factors; FAVAR model
    JEL: D25 G30 L16
    Date: 2021–04
  13. By: Lorenzo Bencivelli (Bank of Italy); Beniamino Pisicoli (University of Rome Tor Vergata)
    Abstract: We study how FDI affects the financial structure of targeted firms, by looking at a sample of foreign acquisitions that occurred in Italy between 1998 and 2016. We show that the entry of foreign investors promotes the diversification of financing sources. Moreover, foreign acquisitions lower investment sensitivity to the availability of bank credit and the cash flow sensitivity of cash, allowing targeted firms to rely more on non-bank external financing channels. Importantly, these effects are stronger for investment in intangible assets. These findings suggest that the positive productivity effects of FDI emphasized in the literature are, at least in part, traceable to enhanced investment in capital that is harder to finance through the banking sector.
    Keywords: FDIs, firms’ financial structure, non-bank financing, investment
    JEL: F15 F21 F23 F61
    Date: 2021–04
  14. By: Giorgio Fagiolo; Tommaso Rughi
    Abstract: This paper investigates the macroeconomic determinants of global bilateral remittances flows. Using data covering 216 World countries over the 2010-2017 period, we employ a gravity-model approach to explore the role payed by dyadic and country-specific covariates in explaining remittances. Robustly across alternative estimation techniques and specifications, we find that remittance flows are strongly impacted by size effects (i.e., number of migrants in the host country and population at home); transaction costs; common social, political and cultural ties; output growth rate and financial development in the home country. We also document the existence of a robust non-linear relationship between per-capita income at home and remittance flows, which we study both in the aggregate and in subsamples where home and host countries are categorized according to their income group. Overall, our results suggest that altruistic and self-interested motives non-trivially interact and may change across both host/home income groups and the level of income at home.
    Keywords: International remittances; International migration; Gravity Models.
    Date: 2021–04–14
  15. By: Manuel Agosin; Juan D. Díaz
    Abstract: This paper attempts to explain real effective exchange rate (REER) volatility in the world economy and particularly in emerging economies. Our first finding is that REER volatility is significantly higher in emerging and other developing countries than it is in advanced economies. The second, and perhaps the most important contribution of the paper, is that the variable that explains a significant percentage of the variability of REER volatility is the correlation between gross capital inflows (increases in liabilities with the rest of the world) and the return of gross capital outflows (decreases in assets held by domestic agents in the rest of the world). This correlation (with increases both in foreign liabilities and declines in assets held abroad expressed as positive magnitudes) is much higher in advanced economies – where, in fact, it approaches unity – than in emerging and other developing economies. The correlation between gross capital outflows and gross capital inflows is negatively and significantly associated with REER volatility. This result is robust to three types of estimation procedures: panel regressions of advanced and emerging economies; a dynamic panel data model that considers the persistence of REER volatility over time; and a logistic regression to model the propensity of having high REER volatility. All three procedures use a variety of control variables such as the exchange rate regime, the inflation rate, the real interest rate, and the volatility in the terms of trade. The major policy conclusion is that, regardless of their exchange rate regime, emerging economies that wish to open their financial account and do not have large institutional investors with assets abroad would do well to maintain sufficient cushions of foreign exchange reservesin order to counteract the negative effects of sudden capital flight. Another interesting finding of the paper is that countries adopting a floating exchange rate regime experience larger REER volatility that those who adhere to other regimes.
    Date: 2020–11
  16. By: Luis Felipe Céspedes; Roberto Chang
    Abstract: We study the interaction between optimal foreign reserves accumulation and central bank international liquidity provision in a small open economy under financial stress. Firms and households finance investment and consumption by borrowing from domestic financial intermediaries (banks), which in turn borrow from abroad. Binding financial constraints can cause the domestic rate of interest to rise above the world rate and the real exchange rate to depreciate, leading to inefficiently low investment and consumption. A role then emerges for a central bank that accumulates reserves in order to provide liquidity if financial frictions bind. The optimal level of international reserves in this context depends, among other variables, on the term premium, the depth of financial markets, ex ante financial uncertainty and the precise way the central bank intervenes. The model is consistent with both the increase in international reserves observed during the period 2004-2008 and with policy intervention after the Lehman bankruptcy.
    Date: 2020–09
  17. By: Asongu, Simplice; Nnanna, Joseph; Acha-Anyi, Paul
    Abstract: This research complements the extant literature by establishing inequality critical masses that should not be exceeded in order for financial access to promote gender parity inclusive education in Sub-Saharan Africa. The focus is on 42 countries in the sub-region and the data is for the period 2004-2014. The estimation approach is the Generalized Method of Moments. When remittances are involved in the conditioning information set, the Palma ratio should not exceed 6.000 in order for financial access to promote gender parity inclusive “primary and secondary education” and the Atkinson index should not exceed 0.695 in order for financial access to promote inclusive tertiary education. However, when the internet is involved in the conditioning information set, it is established that in order for financial access to promote inclusive primary and secondary education, the: (i) Gini coefficient should not exceed 0.571; (ii) Atkinson index should not be above 0.750 and (iii) Palma ratio should be maintained below 8.000. Irrespective of variable in the conditioning information set, what is apparent is that inequality decreases the incidence of financial access on inclusive education. Hence, a common policy measure is to reduce inequality in order to promote inclusive education using the financial access mechanism. Policy implications are discussed in the light of Sustainable Development Goals.
    Keywords: Africa; Finance; Gender; Inclusive development
    JEL: G20 I10 I32 O40 O55
    Date: 2020–01
  18. By: Asongu, Simplice; Odhiambo, Nicholas
    Abstract: This research assesses the importance of credit access in modulating governance for gender inclusive education in 42 countries in Sub-Saharan Africa with data spanning the period 2004-2014. The Generalized Method of Moments is employed as empirical strategy. The following findings are established. First, credit access modulates government effectiveness and the rule of law to induce positive net effects on inclusive “primary and secondary education”. Second, credit access also moderates political stability and the rule of law for overall net positive effects on inclusive secondary education. Third, credit access complements government effectiveness to engender an overall positive impact on inclusive tertiary education. Policy implications are discussed with emphasis on Sustainable Development Goals.
    Keywords: Finance; Governance; Sub-Saharan Africa; Sustainable Development
    JEL: G20 I28 I30 O16 O55
    Date: 2020–01
  19. By: Chen, Jun; Ewens, Michael (California Institute of Technology)
    Abstract: Although an extensive literature shows that startups are financially constrained and that constraints vary by geography, the source of these constraints is still relatively unknown. We explore intermediary financing constraints, a channel studied in the banking literature, but only implicitly addressed in the venture capital (VC) literature. Our empirical setting is the VC fundraising and startup financing environment around the passage of the Volcker Rule, which restricted banks' ability to invest in venture capital funds as limited partners (LPs). The rule change disproportionately impacted regions of the U.S. historically lacking in VC financing. We find that a one standard deviation increase in VCs' exposure to the loss of banks as LPs led to an 18% decline in fund size and about a 10% decrease in the likelihood of raising a follow-on fund. Startups were not completely cushioned from the additional constraints on their VCs: capital raised fell and pre-money valuations declined. Overall, VC financing constraints manifest as fewer, smaller funds that change investment strategy and ex- perience increases in bargaining power. Last, we show that the rule change increased the likelihood startups moved out of impacted states, thus exacerbating the geographic disparity in high-growth entrepreneurship.
    Date: 2021–04–11
  20. By: Sarah Flèche; Anthony Lepinteur; Nattavudh Powdthavee
    Abstract: Can capital constraints explain why there are more male than female entrepreneurs in most societies? We study this issue by exploiting longitudinal data on lottery winners. Comparing between large to small winners, we find that an increase in lottery win in period t-1 significantly increases the likelihood of becoming self-employed in period t. This windfall effect is statistically the same in magnitude for men and women; a one percent increase in exogenous income increases the probability of female self-employment by 0.6 percentage points, which is approximately 10% of the gender entrepreneurial gap. These results suggest that we can causally reduce the gender entrepreneurial gap by improving women's access to capital that might not be as readily available to the aspiring female entrepreneurs as it is to male entrepreneurs.
    Keywords: gender inequality, self-employment, lottery wins, BHPS
    JEL: J16 J21 J24
    Date: 2021–04
  21. By: Catia Batista; Sandra Sequeira; Pedro C. Vicente
    Abstract: We examine the complementarity between access to mobile savings accounts and improved financial management skills on the performance of female-led micro-enterprises in Mozambique. This combined support is associated with a large increase in both short and long-term firm profits and in financial security, when compared to the independent effect of each of these interventions. This support allowed female-headed micro-enterprises to close the gender gap in performance and financial literacy relative to their male counterparts. The main drivers of improved business performance are increased financial management practices (bookkeeping), an increase in accessible savings and reduced transfers to friends and relatives.
    Keywords: Microenterprise development, management, gender, mobile money, financial literacy, economic development
    Date: 2021
  22. By: Asongu, Simplice; Biekpe, Nicholas; Cassimon, Danny
    Abstract: The present research extends Lashitew, van Tulder and Liasse (2019, RP) in order to understand the greater diffusion of mobile money innovations in Africa. To make this assessment, a comparative analysis is engaged between sampled African countries and the corresponding sampled developing countries. Three main types of predictor groups are used for the study, namely: demand, supply and macro-level factors. The empirical evidence is based on Tobit regressions. The tested hypothesis is confirmed because from a comparative analysis between African-specific estimates and those of the sampled countries, not all factors driving mobile money innovations in Africa are apparent in the findings of Lashitew et al. (2019). An extended analysis is also performed to take on board the concern of multicollinearity from which, the best estimators from the study are derived. Comparative findings from correlation analysis show that an African specificity is largely traceable to the ‘unique mobile subscription rate’ variable. An in-depth empirical analysis further confirms an African specificity in the outcome variables (especially in the mobile used to send/receive money) which, may be traceable to informal sector variables not documented in Lashitew et al. (2019). Scholarly and policy implications are discussed.
    Keywords: Mobile money; technology diffusion; financial inclusion; inclusive innovation
    JEL: D10 D14 D31 D60 O30
    Date: 2020–09
  23. By: Vladimir A. Karamychev; Jean-Marie Viaene
    Abstract: Mobile payments (m-payments) increase the accessibility of large segments of society to financial services while before the traditional banking system excluded these for lack of proof of identity and because of unsafe environments. This constitutes a key driver of new growth strategies of the developing world. Smartphones are essential to perform m-payments. In that regard, recent criticism from different sides has expressed the view that manufacturers’ strategies generate partial market coverage whereby the purchase of a phone and financial inclusion also remain out of reach for the group of poor consumers. Our aim in this paper is to examine the theoretical premises of this conjecture in a small open economy and uncover the conditions under which full market coverage is efficient and desirable. We analyze subgame perfect equilibria of a vertical duopoly model characterized by consumers’ taste for quality. The government uses taxes and/or subsidies to modify the market equilibrium. Given this, the following issues are considered: (a) What is the impact of different standards of payment security on the equilibrium number of low- and high-quality users? (b) What are the aggregate welfare gains of complete financial inclusion? (c) What happens if phone makers are foreign?
    Keywords: vertical duopoly, full market coverage, technical obsolescence, financial inclusion
    JEL: F23 G50 H31 H62 L13 L15
    Date: 2021

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