Firm Growth and Finance: Are Some Financial Institutions Better Suited to Early Stages of Development than Others? Robert Cull L. Colin Xu World Bank Conference on Financial Structure and Economic Development June 16, 2011

Ideas About Financial Structure Financial depth more important than mix of institutions (Demirguc-Kunt and Levine, 2001; Levine, 2002) Optimal financial structure is that which best serves optimal industrial structure, based on endowments and level of economic development (Lin, Sun, and Jiang, 2010; Lin, 2010). Political economy drives financial structure, outcome of coalitions between govt. and business. Results in limited access (Calomiris and Haber, 2011).

What we do Test the relationship between financial structure and labor growth at firm level – World Bank Enterprise Surveys (~50,000 firm obs) – World Financial Database (~90 countries) Try to confront the endogeneity of financial structure (FS) variables Split the sample into “poor” and “rich” – Do FS variables perform differently in sub-samples? – Do patterns correspond to stage of development?

Variation in Financial Structure: Private Credit

Variation in Financial Structure: Stock Market Capitalization

Potential Instruments for FS variables Commodities (Engerman, Sokoloff 1997), natural resources (oil) (Beck 2011) Settler mortality (Acemoglu, Johnson, Robinson 2001, 2002) Fractionalization (Easterly, Levine 1997), Trust (Zak and Knack 2001) Legal origin (La Porta, Lopez-di-Silanes, Shleifer, Vishny 1997, 1998 and others)

Most closely linked to FS variables Settler mortality, but doesn’t pass Hansen’s J test Interpersonal trust Net exports of petroleum per worker

Specifications ∆L ij = α + βFIRM ij + γFIN j + ε ij (1) ∆L ij = α + βFIRM ij + γFIN j + δFIRM ij FIN j + ε ij (2) Where: ∆L ij is % change in workers for firm i in country j FIRM: Age, size, foreign ownership shares FIN: private credit/GDP; stock market capitalization/GDP ** sometimes include industry dummies and per capita income

OLS Results

GMM 1: Private Credit

GMM 2: Stock Market Capitalization

Firm Characteristics 1: Size

Firm Characteristics 2: Age

Firm Characteristics 3: Capital Intensity

Conclusions Banking development (private credit) more important than stock market for firm growth in less developed countries But, labor growth increasing in private credit in poorer countries for large, capital-intensive firms Stock markets appear to be more important in high-income countries, though failed to find causal link 2 year growth snapshots: useful, but need case studies of firm financing over time in poorer countries