Raghu's Paper

16977 Words Jul 2nd, 2015 68 Pages
American Economic Association
Financial Dependence and Growth
Author(s): Raghuram G. Rajan and Luigi Zingales
Source: The American Economic Review, Vol. 88, No. 3 (Jun., 1998), pp. 559-586
Published by: American Economic Association
Stable URL: http://www.jstor.org/stable/116849
Accessed: 06-07-2015 21:29 UTC

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The argumentessentially is that the services the financial sector provides-of reallocating capital to the highest value use without substantial risk of loss through moral hazard, adverse selection, or transactionscosts-are an essential catalyst of economic growth. Empirical work seems consistent with this argument. For example, on the basis of data from 35 countries between 1860 and 1963, Raymond W.
Goldsmith (1969 p. 48) concludes that "a rough parallelism can be observed between economic and financial development if periods of several decades are considered." Nevertheless, studies such as these simply suggest correlation. As Goldsmith puts it: "There is no possibility, however, of establishing with confidence the direction of the causal mechanism,
i.e., of deciding whether financial factors were responsible for the acceleration of economic

* GraduateSchool of Business, University of Chicago,
1101 E. 58th St., Chicago, IL 60637. We thank George
Benston, Marco Da Rin, Eugene Fama, Peter Klenow,
Krishna Kumar, Ross Levine, Jonathan Macy, Colin
Mayer, Canice Prendergast, Andres Rodriguez-Clare,
David Scharfstein, Robert Vishny, and two anonymous referees for valuable comments. Jayanta Sen, Dmitrii
Kachintsev, and Alfred Shang provided excellent research assistance. A preliminary study was supported by the
World Bank. We gratefully acknowledge financialsupport from NSF GrantNo. SBR-9423645.

development or whether financial development

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