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on Financial Development and Growth |
| By: | Guglielmo Maria Caporale; Anamaria Diana Sova; Robert Sova |
| Abstract: | This paper applies the Seo and Shin (2016) method for estimating dynamic panels with endogenous threshold effects to obtain new, robust evidence on nonlinearities in the relationship between international financial integration (IFI) and economic growth. This approach is based on a first-differenced GMM estimator which allows both the threshold variable and the regressors to be endogenous. More specifically, the present study analyses yearly data for 40 European countries from 1996 to 2021, this European focus yielding novel insights into a region with a diverse economic landscape. The IFI–growth nexus is examined using various IFI measures and thresholds reflecting country-specific characteristics, and then the analysis is extended by comparing the impact of the 2007-2009 global financial crisis (GFC) and of the Covid-19 pandemic respectively on the relationship of interest. The results provide clear evidence of nonlinearities and suggest that the effects of financial integration on economic growth vary depending on factors such as the level of financial development, trade openness, institutional quality, political and economic uncertainty, initial income, and financial openness. Further, the 2007-2009 GFC appears to have had a more significant impact than the Covid-19 pandemic. |
| Keywords: | international financial integration (IFI), economic growth, nonlinearities, dynamic panels, endogeneity, thresholds |
| JEL: | C33 F36 |
| Date: | 2025 |
| URL: | https://d.repec.org/n?u=RePEc:ces:ceswps:_11639 |
| By: | Kundu, Shohini; Vats, Nishant |
| Abstract: | This paper investigates the role of banking networks in the transmission of shocks across borders. Combining banking deregulation in the US with state-level idiosyncratic demand shocks, we show that geographically diversified banks reallocate funds from economies experiencing negative shocks to unaffected regions. Our findings indicate that in the presence of idiosyncratic shocks, financial integration reduces business cycle comovement and synchronizes consumption patterns. Our findings contribute to explaining the Great Moderation and provide empirical support for theories that predict that banking integration facilitates the insurance of region-specific risk and the efficient allocation of resources as markets become more complete. JEL Classification: E32, F36, G21 |
| Keywords: | business cycles, economic growth, financial integration, great moderation, idiosyncratic shocks, regional economics |
| Date: | 2025–02 |
| URL: | https://d.repec.org/n?u=RePEc:ecb:ecbwps:20253019 |
| By: | Makoto Fukumoto (Waseda University); Masato Shizume (Waseda University) |
| Abstract: | Following the opening of the treaty ports in 1859 and Meiji Restoration in 1868, Japan instituted a series of drastic reforms, successfully modernized, and achieved prolonged economic growth. Among other entities, national banks structured as joint stock companies according to the US model played a key role in the modernization of the country by providing the society with liquidity and integrating the national financial markets. We explore the factors that led to the success of the national banks by constructing new datasets characterizing the origins of the national banks and the viability of individual national banks. We then perform regressions with this database to explore the emergence of banking activities during the preceded period and to test whether the origins of the banks affected their viability and regional economic growth. Empirical results from econometric analysis and case studies demonstrate that commoners who engaged in commercial activities played a key role in Japan’s modernization as the founders of the national banks. |
| Date: | 2025–02 |
| URL: | https://d.repec.org/n?u=RePEc:wap:wpaper:2415 |
| By: | Kelly, Paul V. |
| Abstract: | The purpose of this paper is to provide the first time series of interest rates in the Irish mortgage market of the eighteenth century.1 This time series, when combined with new data on the investment returns from land and other types of investments, sheds light on the determinants of interest rates in economies without a central bank. This paper is relevant to two key global economic history issues for the period: the influence of institutions on economic growth and the timing of the ‘Great Divergence’ between Western Europe and the rest of the world.2 However, the primary questions dealt with are how did Irish rates compare with English ones and how did they influence the development of the Irish economy? Interest rates are ‘an important index of the quality of the institutional framework’ and this paper examines the development of Irish rates and shows how they compare to other economies.3 The paper demonstrates that Irish interest rates were consistently higher than equivalent English ones and that the Irish mercantile and industrial sectors were handicapped as a result. This spread is not attributable to risk premia caused by differences in institutional effects but rather by the relative risk/return hierarchy of different investment types, notably by the exceptionally high returns on Irish land. Credit market failure was the result for much of the century as the unrealistic usury maximum caused credit rationing. There was also a sustained strong correlation between English and Irish rates.4 However, this correlation was not due to direct market integration, since the English and Irish markets were segregated, but rather the two markets were reacting in the same way to external stimuli such as wars. |
| JEL: | N13 E43 |
| Date: | 2024–12 |
| URL: | https://d.repec.org/n?u=RePEc:ehl:wpaper:127155 |
| By: | Denninger, Jan; Kaplan, Lennart |
| Abstract: | This paper analyzes whether Chinese aid and other forms of official finance affect structural transformation in low- and-middle income countries. Specifically, we employ an instrumental variables (IV) approach to causally analyze the effect on the Economic Complexity Index of 98 recipient countries over the 2002-2016 period. Economic complexity is defined as the diversity and sophistication of the goods an economy produces. The results reveal that Chinese official financing (OF) does not have statistically significant effects at the aggregate level; however, its effectiveness varies across sectors and recipients. A sectoral perspective shows that Chinese OF to recipients' production sectors has a significantly negative effect on their economic complexity. These effects are most pronounced for high-complexity recipients, suggesting that China primarily targets industries below existing levels of complexity, thereby impeding potential structural transformation. In contrast, low-complexity recipients experience positive complexity effects from Chinese social sector projects, especially from those related to education. Given that China is known for its demand-driven approach of lending, recipients should push for an adjustment in the composition and allocation of Chinese OF to render structural transformation more likely. |
| Keywords: | Aid, China, Trade, Economic Complexity, Structural Change |
| JEL: | P45 F14 F35 O11 O35 |
| Date: | 2025 |
| URL: | https://d.repec.org/n?u=RePEc:zbw:ifwkwp:310328 |
| By: | Umaima Imran |
| Date: | 2025–01 |
| URL: | https://d.repec.org/n?u=RePEc:wlu:lcerpa:jc0151 |
| By: | Alanda Venter (Department of Economics, University of Pretoria, Pretoria, South Africa); Roula Inglesi-Lotz (Department of Economics, University of Pretoria, Pretoria, South Africa) |
| Abstract: | For most developing countries, energy reliability has remained a persistent challenge throughout the last few decades. Energy reliability challenges - loadshedding, in this case, has been a phenomenon since 2008 in South Africa and peaked in 2023 when the country experienced 6950 hours of load shedding in a single year. Like many developing countries, South Africa's government uses foreign direct investment to increase development within their economies; however, electricity supply challenges hinder the country's attractiveness to foreign direct investment. Adequate institutional quality conditions can assist in both improving electricity supply and market attractiveness. This study assesses the relationship between electricity supply and inward foreign direct investment in the presence of good institutional quality conditions. A structural Bayesian VAR is used in the study to obtain impulse response functions that indicate the presence of favourable institutional conditions initially has a positive effect on the electricity supply. The improvement in electricity supply then results in a positive impact on inward foreign direct investment. |
| Keywords: | Institutional Quality, Foreign Direct Investment, Inward- Foreign Direct Investment, Electricity supply, Electricity generation shortages |
| Date: | 2025–02 |
| URL: | https://d.repec.org/n?u=RePEc:pre:wpaper:202505 |
| By: | Szörfi, Béla; Augusztin, Anna; Iker, Áron; Monisso, Anna |
| Abstract: | This paper investigates the growth impact of the EU’s Structural, Cohesion and Pre-accession Funds. We look at a large sample of 27 EU countries and the UK, over a period of 1989 and 2020, essentially covering the full history of these funds. We show that the growth effect of the funds is conditional on institutional quality: the funds contribute to economic growth only in countries with strong institutions: low corruption, strong rule of law, effective governments, and strong regulatory quality.Our research have important messages for the expected economic impact of the Next Generation EU (NGEU) and the Recovery and Resilience Facility (RRF). On the one hand, our findings highlight the risk that countries with weaker institutions – that also receive more funds - may use such funds less efficiently or wisely. On the other hand, countries that receive more RRF funds are also expected to introduce more structural reforms, some of which have the potential to improve institutional quality and thereby improve the effectiveness of the RRF and EU funds in general. JEL Classification: O11, O43, O47 |
| Keywords: | cohesion funds, economic growth, institutions, structural |
| Date: | 2025–01 |
| URL: | https://d.repec.org/n?u=RePEc:ecb:ecbwps:20253014 |
| By: | Roberto Bonfatti; Adam Brzezinski; K. Kivanc Karaman; Nuno Palma |
| Abstract: | Monetary capacity refers to the maximum level of monetization attainable by a state, given scarcity of commodity money and the need to finance public expenditure by taxing money. We develop a model showing that monetary and fiscal capacity are complements in imperfectly monetized economies. A positive shock to fiscal capacity implies lower expected seignorage and thereby increases monetary capacity. Simultaneously, a positive shock to monetary capacity increases the efficiency of taxation, and hence the incentive to invest in fiscal capacity. We take this model to the data by exploiting an exogenous shock to Europe’s monetary capacity: the inflow of precious metals from the Americas (1550-1790). Our causal estimates indicate that increases in monetary capacity led to gradual and persistent increases in fiscal capacity in England, France and Spain. A historical overview of Europe and China from antiquity to the early-modern period confirms that monetary and fiscal capacity co-evolved in the long run. |
| Keywords: | monetary capacity, fiscal capacity, monetization, inflation, taxation, quantity theory of money, monetary non-neutrality |
| JEL: | E50 E60 H21 N10 O11 |
| Date: | 2025–01 |
| URL: | https://d.repec.org/n?u=RePEc:man:allwps:0007 |
| By: | Alemnew, Teklebirhan; Taffesse, Alemayehu Seyoum |
| Abstract: | In both developing and developed economies, academic and policy discussions have consistently emphasized that achieving stable economic growth and maintaining internal and external balance require an exchange rate aligned with its long-term equilibrium value. This paper examines the impact of real exchange rate misalignment on Ethiopia's economic growth from 1980 to 2022. The study begins by estimating the equilibrium real exchange rate using the Behavioral Equilibrium Exchange Rate (BEER) approach to calculate the misalignments. It then analyzes the effects of these misalignments on economic growth using Vector Autoregressive (VAR) and Hansen's (2000) threshold regression model. The VAR and Impulse Response Function (IRF) analyses reveal that real exchange rate misalignments have an immediate positive impact on economic growth, which diminishes between the eighth and sixteenth years and stabilizes as a permanent long-term effect. The threshold regression results indicate that undervaluation of the Ethiopian Birr enhances economic growth up to a 13.95% deviation from the equilibrium real exchange rate, while overvaluation supports growth up to a 7.15% threshold. Beyond these limits, misalignments hinder growth. The study underscores the importance of avoiding excessive deviations from the equilibrium exchange rate to sustain economic growth. Furthermore, it highlights the need for consistent macroeconomic policies to minimize the gap between the actual and equilibrium real exchange rates. These findings emphasize the critical role of exchange rate policy in promoting sustainable economic development in Ethiopia. |
| Keywords: | ETHIOPIA; EAST AFRICA; AFRICA SOUTH OF SAHARA; AFRICA; economic growth; policies; exchange rate |
| Date: | 2024 |
| URL: | https://d.repec.org/n?u=RePEc:fpr:esspwp:163 |
| By: | Schlicht, Haley |
| Abstract: | This paper investigates the dynamics of Western OECD syndicated bank lending to East Asian borrowers during the 1997-1998 Asian Financial Crisis (AFC), focusing on the interplay between sentiment volatility and moral hazard. Analysing loan data from Thomson-Reuters DealScan reveals that between 1993-2003 East Asian borrowers received disproportionately high loan volumes compared to other emerging market countries and this phenomenon is not full explainable by economic fundamentals. Regression analysis highlights the paradoxical role of short-term debt: while it was associated with higher loan spreads and fees, reflecting an acknowledgment of risk, it simultaneously increased lending volumes, indicating conflicting risk assessment. The study employs the novel use of GenerativeAI to construct an estimate of volatility in sentiment towards East Asia from financial news headlines, offering an original assessment of how market sentiment influenced lending behaviour. The Difference-in-Differences analysis provides compelling evidence that, in the pre-crisis period, increased sentiment volatility spurred increased lending while post-crisis that same volatility deterred lending. This shift highlights how lenders engaged in excessive lending despite appreciable risk before the AFC, only to recalibrate their behaviour in response to the post-crisis fallout. These findings indicate that the "East Asia effect" was shaped not just by regional economic factors, but also by sentiment-driven decision-making which contributed to the financial instability that characterized the AFC. This research highlights the need for further investigation into the role of sentiment in international finance, particularly its influence on financial decision-making during periods of economic growth and crisis. |
| JEL: | F34 |
| Date: | 2024–12 |
| URL: | https://d.repec.org/n?u=RePEc:ehl:wpaper:127154 |
| By: | Joaquín Saldain |
| Abstract: | I study the welfare consequences of regulations on high-cost consumer credit in the United States. I estimate a heterogeneous-agents model with uninsurable idiosyncratic risk, risk-based pricing of loans, and preference heterogeneity including households with self-control issues. I find that one-third of high-cost borrowers suffer from self-control issues. Noncontingent regulatory borrowing limits have distributional consequences within households with self-control issues. High-income households benefit from restrictions on borrowing because they face loose price schedules from lenders that allow them to overborrow. Low-income households face tight individually targeted loan price schedules that limit households’ borrowing capacity so that borrowing restrictions cannot improve welfare over them. |
| Keywords: | Credit and Credit Aggregates; Financial markets; Interest rates |
| JEL: | E71 E2 G51 |
| Date: | 2025–01 |
| URL: | https://d.repec.org/n?u=RePEc:bca:bocawp:25-6 |
| By: | Federico Huneeus; Joseph P. Kaboski; Mauricio Larrain; Sergio L. Schmukler; Mario Vera |
| Abstract: | This paper studies how credit guarantee and employment protection programs interact in assisting firms during crises times. The paper analyzes how these government programs influence credit allocation, indebtedness, and risk at both the micro and macro levels. The programs provide different incentives for firms. The low interest rate encourages riskier firms to demand government-backed credit, while banks tend to reject those credit applications. The credit demand outweighs this screening supply response, expanding micro-level indebtedness across the extensive and intensive margins among riskier firms. The uptake of the employment program is not associated with risk, as firms internalize the opportunity cost of reduced operations when sending workers home to qualify for assistance. The employment program mitigates the indebtedness expansion of the credit program by supporting firms and enabling banks to screen firms better. Macroeconomic risk of the credit program would increase by a third without the availability of the employment program. |
| Keywords: | banking, credit demand, credit supply, crises, Covid-19, debt, employment protection, firm risk, macroeconomic risk, public credit guarantees |
| JEL: | G21 G28 G32 G33 G38 I18 |
| Date: | 2025 |
| URL: | https://d.repec.org/n?u=RePEc:ces:ceswps:_11652 |
| By: | Giraldo, Carlos (Latin American Reserve Fund); Giraldo, Iader (Latin American Reserve Fund); Gomez-Gonzalez, Jose E. (City University of New York – Lehman College); Uribe, Jorge M. (Universitat Oberta de Catalunya) |
| Abstract: | We examine the relationship between a country’s level of investment in research and development (R&D) and financial stability. Our findings emphasize the importance of a balanced fiscal strategy that reconciles the urgency of short-term fiscal consolidation with the pursuit of long-term economic growth and productivity. Using causal mediation analysis, we evaluate both the direct impact of R&D spending on financial stability and the indirect effects mediated through government expenditure. The results reveal that while total R&D spending, including public and private contributions, directly and significantly enhances financial stability, an increase in total public expenditure—arising from higher R&D investment while holding other components of government spending constant—counterbalances this positive effect. Thus, when both direct and indirect pathways are considered, the overall causal impact is nonsignificant. These findings highlight the need for policymakers to prioritize R&D investment while carefully managing other areas of public spending to safeguard financial stability. They also underscore the critical role of private R&D investment in financial stability. A strategic fiscal framework is essential to balance innovation-driven investments with fiscal discipline, supporting long-term economic resilience and growth. |
| Keywords: | Public expenditure; Research and development; Financial stability; Causal mediation analysis |
| JEL: | E62 G18 O38 |
| Date: | 2025–02–12 |
| URL: | https://d.repec.org/n?u=RePEc:col:000566:021327 |
| By: | Alper, Koray; Baskaya, Soner; Shi, Shuren |
| Abstract: | This study investigates the influence of macroprudential policies (MaPs) on corporate investment, employing firm-bank level microdata from the European Investment Bank Investment Survey (EIBIS) for the period 2015-2022. We initially document that MaP tightening, particularly through supply-based MaPs, leads to a reduction in corporate investment. We then delve into the transmission mechanism of MaPs. Our analysis suggests that MaPs affect corporate investment through bank lending decisions. MaP tightening correlates with greater reliance on internal finance and reduced use of external finance. Further, we find that both bank and firm characteristics significantly contribute to the effect of MaPs on corporate investment. Specifically, we observe that financially weaker banks are more likely to restrict credit in response to MaP tightening. Moreover, firms that are heavily reliant on external finance for investment, as well as those that are financially weaker, appear to be more adversely affected by a reduced credit supply. Lastly, we find that MaPs exert a stronger impact on tangible investments, whereas intangible investments are less sensitive to MaPs. Our finding suggests that the insignificance is due to the lower reliance of intangible investments on external finance, verifying the presence of the bank lending channel of MaP transmission. |
| Keywords: | Macroprudential policies, bank lending, tangible investments, intangible investments, financial stability |
| JEL: | D22 E22 E58 G28 |
| Date: | 2025 |
| URL: | https://d.repec.org/n?u=RePEc:zbw:eibwps:310332 |
| By: | Gulnara Nolan; Jonathan Hambur; Philip Vermeulen |
| Abstract: | We use administrative and survey evidence from Australia to provide several new empirical facts about how monetary policy affect investment. First, we demonstrate that contractionary policy affects both the intensive and extensive margins of investment, with the latter particularly important for small and young firms, suggesting quadratic adjustment costs do not accurately capture firm-level dynamics. Second, we show that firms’ actual and expected investment respond at the same time. This suggests that models of myopia may be more realistic way of incorporating slow aggregate investment responses into models. It also suggests that the user cost channel may be less important than other channels, as user costs would adjust immediately following the policy change. Finally, we show that firms that claim to be financially constrained, a more direct measure of constraints than previously used in the literature, are more responsive to monetary policy, and that more most the difference comes through the extensive margin. Moreover, contractionary policy leads to an increase in the share of constrained firms. |
| Keywords: | investment, monetary policy, financial constraints |
| JEL: | E22 E52 |
| Date: | 2025–02 |
| URL: | https://d.repec.org/n?u=RePEc:een:camaaa:2025-09 |
| By: | Aliaksandr Zaretski |
| Abstract: | I characterize optimal government policy in a sticky-price economy with different types of consumers and endogenous financial constraints in the banking and entrepreneurial sectors. The competitive equilibrium allocation is constrained inefficient due to a pecuniary externality implicit in the collateral constraint and other externalities arising from consumer type heterogeneity. These externalities can be corrected with appropriate fiscal instruments. Independently of the availability of such instruments, optimal monetary policy aims to achieve price stability in the long run and approximate price stability in the short run, as in the conventional New Keynesian environment. Compared to the competitive equilibrium, the constrained efficient allocation significantly improves between-agent risk sharing, approaching the unconstrained Pareto optimum and leading to sizable welfare gains. Such an allocation has lower leverage in the banking and entrepreneurial sectors and is less prone to the boom-bust financial crises and zero-lower-bound episodes observed occasionally in the decentralized economy. |
| Date: | 2025–01 |
| URL: | https://d.repec.org/n?u=RePEc:arx:papers:2501.16575 |
| By: | Bambe, Bao-We-Wal |
| Abstract: | Achieving the Sustainable Development Goals (SDGs) will require significant financing and investment, particularly as growing challenges from climate events highlight the insufficiency of public funds to meet the 2030 Agenda (World Economic Forum 2024). Private capital for low- and middle-income countries (LMICs) surged in recent years, with significant commitments from multilateral development banks (MDBs). However, the financing gap to achieve the SDGs remains sizable, highlighting the need for greater effort to mobilise much larger private capital for sustainable development. In recent years, guarantees have emerged as a key leveraging mechanism. They are designed to mitigate high investment risks to support private capital mobilisation in LMICs. However, despite some progress, guarantees are used sparingly, suggesting considerable scope for increasing their scale, as highlighted by the G20 Independent Expert Group (IEG). This Policy Brief examines whether guarantees can serve as an effective leveraging mechanism for small and medium-sized enterprises (SMEs) in low- and middle-income countries (LMICs). This is especially so because SMEs remain largely hampered by poor access to finance, despite their key role in providing jobs for the local population and contributing to economic growth. Moreover, in the face of climate change, SME adaptation requires new investments in climate-resistant technologies and clean energies, highlighting the need for additional financing amid severe constraints on access to capital. Guarantees can complement other leveraging mechanisms, further easing financing constraints for SMEs in LMICs. Guarantees can absorb some of the risks associated with investment, offering financial institutions greater security. This added security can, in turn, help improve access to capital for SMEs. On the other hand, they can also help catalyse private sector investment in LMICs. Recognising both the potential benefits and short-comings of guarantees, this Policy Brief provides the following policy recommendations on how guarantees could be extended efficiently to the SME sector in LMICs. - Guarantees should be directed at financial institu-tions to mitigate portfolio risk and actively promote lending to small projects or SMEs in high-risk sectors, particularly those with the potential to generate substantial economic, environmental, or social benefits. - Complement guarantees with additional measures to improve SMEs' financial management, enhance risk assessment, and strengthen technical capacity through professional training and advisory services. - Implement partial credit guarantees to require financial institutions to retain a share of the risk, thereby reducing moral hazard and promoting rigorous analyses of borrowers' creditworthiness. Complement these guarantees with conditionalities and monitoring criteria, such as regular reporting, to ensure the incrementality and additionality of guaranteed financing. Enhance the harmonisation of guarantees with other leveraging mechanisms, improve coordination among MDBs and DFIs, and streamline guarantee frameworks to achieve greater efficiency. - Recognise that guarantees alone cannot address structural vulnerabilities and institutional weakness in LMICs; a long-term commitment from decision-makers is essential to improve institutional and economic performance. |
| Keywords: | Guarantees, Multilateral Developemnt Banks, Small and Medium-Sized Enterprises, Low- and Middle-income Countries, 2030 Agenda |
| Date: | 2025 |
| URL: | https://d.repec.org/n?u=RePEc:zbw:idospb:309600 |
| By: | Liliana Rojas-Suarez (Center for Global Development) |
| Abstract: | Basel III—the international standard for banking regulation—has strengthened global financial stability but has also led to unintended consequences that may hinder progress toward key Sustainable Development Goals (SDGs). This paper examines how Basel III’s regulatory framework may restrict bank lending to SMEs (impacting SDG 10) and constrain infrastructure finance (impacting SDG 8). Addressing these challenges requires refining risk assessment methodologies while preserving Basel III’s core objective: accurate risk evaluation. For SMEs, tailoring risk weights using local credit registry data can better reflect economic conditions in emerging markets. For infrastructure, recognizing it as a distinct asset class and leveraging credit risk mitigation tools could improve financing. Greater engagement from multilateral institutions, particularly the World Bank, is essential to advancing these solutions while maintaining financial stability. |
| Keywords: | Basel III, Sustainable Development Goals, Infrastructure Finance, SME Lending |
| JEL: | G21 G28 O1 O18 |
| Date: | 2025–02–10 |
| URL: | https://d.repec.org/n?u=RePEc:cgd:ppaper:351 |
| By: | Ngoc-Sang Pham; Alexis Akira Toda |
| Abstract: | We revisit the classic paper of Tirole "Asset Bubbles and Overlapping Generations" (1985, Econometrica), which shows that the emergence of asset bubbles solves the capital over-accumulation problem. While Tirole's main insight holds with pure bubbles (assets without dividends), we argue that his original analysis with a dividend-paying asset contains some issues. We provide a fairly complete analysis of Tirole's model with general dividends such as equilibrium existence, uniqueness, and long-run behavior under weaker but explicit assumptions and complement with examples based on closed-form solutions. Some of the claims in Tirole (1985) require qualifications including (i) after the introduction of an asset with negligible dividends, the economy may collapse towards zero capital stock ("resource curse") and (ii) the necessity of bubbles is less clear-cut. |
| Date: | 2025–01 |
| URL: | https://d.repec.org/n?u=RePEc:arx:papers:2501.16560 |
| By: | Giammario Impullitti; Pontus Rendahl |
| Abstract: | In recent decades, the United States has experienced a notable rise in markups, a slowdown in productivity growth, and an increase in wealth inequality. We present a framework that unifies these trends into a common driving force. In particular, increased barriers to entry raises markups and boost corporate profits. Rising profits elevates firm valuations, fuels the demand for capital, and drives up asset returns. At the same time, the reduction in competition stifles overall economic growth. Wealth inequality is shaped by the return gap, r - g, which represents the difference between asset returns and the economy’s growth rate. The rise in capital demand together with a reduction in growth leads to a widening of the return gap, which amplifies inequality by affecting the saving patterns of households in different ways across the wealth distribution, deepening the divide between the rich and the poor. These trends result in substantial welfare losses for the majority of households, while only the top 1%, and especially the top 0.1%, experience gains. |
| Keywords: | Market Power, Growth, Heterogeneous Agents, Wealth Distribution. |
| Date: | 2025 |
| URL: | https://d.repec.org/n?u=RePEc:not:notcfc:2025/01 |