Innovation, competition and financial vulnerability in economic development

Abstract

The financial sector has been viewed traditionally as either providing the "oil" for the "wheels of commerce" or as a parasite on the real sector of the economy where real productivity gains provide for increasing real wages and per capita incomes. The present paper takes a different route and attempts to an analysis of financial institutions on a par with the production sector of the economy. It also develops a link which amalgamates "the knowledge-based" perspective on firms' operations with Schumpeterian financial leverage to exploit productivity enhancing innovations, and Minsky's tendency towards financial fragility. The analysis also leads to some policy recommendations concerning financial regulation, risk management and financial institution's building.

Schumpeterian innovations, financial innovations and instability: An institutional perspective

“…Numerous works show that in highly liberalized environment, unfettered and unhealthy bank and financial competition may lead to innovations resting on excessive risk taking and then feeding financial fragility (Hellman et al, 2000;Burlamaqui and Kregel, 2005). Liberal/deregulated environment generates specific institutional and competitive pressures that (ill)shape behaviour of banks and financial intermediaries (through their innovation strategies) and thus (ill)affect the mechanisms of financing of productive entrepreneurial activities which in turn shape the path of economic development.…”

Veblenian and Minskian financial markets

“…Burlamaqui 2000, Burlamaqui/Kregel (2005) and Papadimitriou/Wray (2010) argue that the appreciation of Minsky's concept of creative destruction in finance depends on our knowledge about the evolution of the banking system; in particular the evolution from Schumpeter's view of banks as passive institutions that finance manufacturing innovation and growth, to Minsky's view of them as institutions that aggressively innovate for liquidity and profitability. This evolution in banking induces changes in the leverage structures of the economic units that engage in industrial and financial competition.…”

“…More specifically, as Burlamaqui/Kregel (2005) have argued, Minsky's banks require complex information about the formation and evolution of prices in various securities markets and have a stronger tendency towards financial innovation and competition. However, the diffusion of financial innovation in the form of new products and processes within the financial marketplace is instantaneous.…”

Contributions to Economic Theory, Policy, Development and Finance

“…Minsky extended that view through the 'Wall Street Paradigm' where capitalism is conceived as essentially a financial system and prone to waves of financial fragility and economic vulnerability . Kregel broadened Minsky's theories by linking them to development as well as introducing exchange rate instability, derivatives and the 'international dimension' to our understanding of how the financial structure of an economy is, always , a key element of its development path , Burlamaqui and Kregel 2005.…”