Finance and Balanced Growth

Abstract

The Uzawa (1961) theorem applied to finance and growth suggests that a long-run positive correlation between financial efficiency and depth is only present when variations in the extent of access to financial services are considered. Improvements in financial efficiency can lead to new capital augmenting technologies along the balanced path, but only improvements in financial efficiency directed towards labor can change the rate of growth in the long-run. These findings suggest ways to understand some of the more nuanced relationships between finance and growth observed in the data and point in a number of directions for future research.JEL Classification: O11, O16, O40.

Financial development and economic growth: long‐run equilibrium and transitional dynamics

“…The main pathways discussed in his work are related to three fundamental activities generally run by financial intermediaries, namely funneling savings to firms, improving the allocation of capital, and affecting an economy's whole saving rate. After this seminal work, over the last two decades a number of studies has focused on the effects of financial intermediaries on human (De Gregorio, ; De Gregorio and Kim, ) as well as technological (Morales, ; Trew, ) capital accumulation, while only recently some step further has been made toward considering the role of financial intermediaries in channeling savings to the most efficient uses (Trew, ). Most of the extant theoretical works on finance and growth suffer from two major limitations, namely they are unable to capture the apparently nonlinear, and possibly non‐monotonic, relationship between finance and economic growth and, moreover, they do not analyze the transitional effects associated with financial development, as they mainly focus on balanced growth path (BGP) outcomes.…”

“… Bucci () proposes a growth model with purposive R&D activity and human capital investment in which technological progress affects per capita human capital depreciation, which is therefore endogenous. In the present paper we do not model the direct effect that financial development has on R&D activity (a recent work that analyzes this issue is Trew, ), but we move one step further by postulating that a higher degree of financial development, by accelerating the rate of technological progress, is indirectly able to speed up the rate of obsolescence of an individual's human capital. …”

On the (Nonmonotonic) Relation Between Economic Growth and Finance

“…In our framework, financial development affects both the total factor productivity and the amount of resources subtracted to capital investment. These two effects formalize, respectively, the fact that financial intermediaries allow to channel resources to the most efficient uses [Pagano (1993), Trew (2008), Bucci and Marsiglio (2018)], and the fact that financial intermediation is a costly activity draining resources away from capital accumulation [Pagano (1993), Trew (2014) Bucci and Marsiglio (2018)]. Therefore, the resources subtracted to capital accumulation determine the level of financial intermediation.…”

“…Despite its potentially relevant role on long-term economic outcomes and the huge body of empirical studies, very few have been thus far the theoretical works trying to analyze in depth the possible channels relating financial development and economic growth. Indeed, after Pagano's (1993) seminal paper, which has first pointed out the variety of mechanisms through which finance might impact on economic growth, the theoretical literature has especially focused on the effects of financial intermediation on human capital [De Gregorio (1996), De Gregorio and Kim (2000), Bucci and Marsiglio (2018)], technological progress [Morales (2003), Trew (2008)], and more recently physical capital accumulation [Trew (2014), Bucci and Marsiglio (2018)]. The existence of such a variety of channels to eventually account for suggests that from an empirical point of view understanding the sign of the growth and finance nexus is all but simple.…”

Finance, Investment and Growth: Evidence for Italy

“…Some studies use the net interest margin (see Trew, ) of the same data set as a measure of efficiency but it has the same limitations than those most commonly used and, in any case, this measure is available for Italy only from 1998.…”