Financial development, financial fragility, and growth Loayza, Norman; Ranciere, Romain

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Authors
Loayza, Norman ; Ranciere, Romain
Appears In
Journal of Money, Credit & Banking
Subjects
Intermediation (Finance) - Econometric models.; Economic development -- United States; Economic development -- Research
Audience
Academic
Summary
This paper studies the apparent contradition between two strands of the literature on the effects of financial intermediation on economic activity. On the one hand, the empirical growth literature finds a positive effect of financial depth as measured by, for instance, private domestic credit and liquid liabilities (e.g., Levine, Loayza, and Beck 2000). On the other hand, the banking and currency crisis literature finds that monetary aggregates, such as domestic credit, are among the best predictors of crises and their related economic downturns (e.g., Kaminsky and Reinhart 1999). The paper accounts for these contrasting effects based on the distinction between the short- and long-run impacts of financial intermediation. Working with a panel of cross-country and time-series observations, the paper estimates an encompassing model of short- and long-run effects using the Pooled Mean Group estimator developed by Pesaran, Shin, and Smith (1999). The conclusion from this analysis is that a positive long-run relationship between financial intermediation and output growth co-exists with a mostly negative short-run relationship. The paper further develops an explanation for these contrasting effects by relating them to recent theoretical models by linking the estimated short-run effects to measures of financial fragility (namely, banking crises and financial volatility) and by jointly analyzing the effects of financial depth and fragility in classic panel growth regressions. JEL codes: E44, O16, 040 Keywords: financial development, banking crisis, economic growth, volatility.
Bookmark
http://trove.nla.gov.au/work/175326
Work ID
175326

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