1. Finance and Growth: a Micro-founded Approach Federica Barzi Seminario 21-22 dicembre 2005 Dipartimento di Scienze Economiche Università di Verona

2. Objectives  relationship between the development of financial system structure and economic growth  measures to encourage financial development  equilibrium the financial system through the general equilibrium model (FAGE)  comparative statics analysis on a financial general equilibrium framework  impact of different financial policies

3. Issues  which financial variables need to be modified in order to ensure a sustainable financial-economic equilibrium and growth?  does an optimum and correct balance between freedom and control in financial flows movements exist and, if so, is it really best suited to provide economic growth?  how can a financial authority gain control to lead the economy out of crises or stagnation?

4. How to gauge financial structure?  “… it is a holistic concept similar to the matrix of coefficients in an input-output table, the cells here measuring the relationship of a given financial item to the total of all financial instruments outstanding in a country at a given date, or to the total transactions in financial instruments during a given period” Goldsmith 1975

5. Agents  Households  Firms  Government  Central bank  Rest of the world + Commercial banks + Non-bank financial system + Stock exchange markets (+ Financial planner)

6. Methodology  Financial applied general equilibrium (FAGE)  Stock-Flow consistent model (SFC)  Econometrics analyses (panel data)  Implementation through dynamic models

7. AGE  Attempts to simulate numerically the general equilibrium structure of an economy  Walras law: demand equals supply for all commodities, at a set of relative prices that can be identified ( Arrow-Debreu model )  An equilibrium does exists ( Fixed point theorem, Scarf’s algorithm )

8. FAGE  Basic data (national accounts, balance of payments, input-output tables, bank and financial systems interflows)  Benchmark equilibrium dataset  Choice of functional forms according to economic and financial variables directly affected by changes in financial policy;  Calibration of the model;  Counterfactual equilibrium for policy change

9. HINTS FOR MODELLING F-Listed Class (i) F-Non Listed Class (j) H-Investors Class (h) H-Non Investors Class (k)

10. HINTS FOR MODELLING F-Listed Class (i) F-Non Listed Class (j) H-Investors Class (h) H-Non Investors Class (k)

11. FAGE StrengthsWeaknesses Solid MicrofoundationsLimited range of f. forms and stylized sectors of the economy Estimation of Welfare EffectsSensitivity to closure rules Distributional aspectsInability to assess the outcomes Connection between aggregate variables and disaggregated sub- structure Inter-temporal substitution and dynamics, expectations Facilities for simulations of alternatives and flexibility Large scale models closed to reality are impossible to solve Applicability to complex problemsDemanding data requirements

12. SFC  It implies the setting of a matrix (FAM - financial accounting matrix) similar to a SAM  This provides “a systematic listing of the financial stocks” where the assets of the agents are displayed by rows and liabilities by columns

13. SFC  Main differences between SAM and FAM SAMFAM Double-entry table build on the base of an input- output table The denomination of columns differ from that of rows Monetary (nominal) flowsFinancial flows Total sum of rows have to equate the total sum of columns No balancing requirements

14. Econometrics  i.e. : King-Levine (1993a) -  i.e. : King-Levine (1993a) - Levine Zervos (1998)  Cross-country regression model G(j)= a + b F(i) + c X + u G(j) = growth indicators F(i) = financial development indicators (FinDI) X = other regressors X = other regressors

15. Growth indicators King-Levine (1993a)  Long-run per capita growth rates  Capital accumulation  Productivity growth

16. FinDI King-Levine (1993a)  DEPTH(+)  BANK (+)  PRIVY(+)

17. FinDI Levine Zervos (1998)   Turnover ratio (+)   Stock market size( ̴ )

18. Role of institutions GovRest of the World -Income/corporate taxes -Export subsidies -Import tariffs -Value added taxes -Transfers to households and enterprises -Real government consumption -Real government investment -Infrastructure projects -Development aid -Foreign portfolio investment -Foreign direct investment -Net credit to government -Debt relief (HIPC) -Foreign interest rate (LIBOR) -Factor income from abroad -Remittances -World prices for exports -World prices for imports -Grant element of concessional credits

19. Role of financial institutions Banking systemNon-bank fin. systemStock Exchange Central Bank: -Minimum foreign exchange reserves -Central Bank interest rate -Nominal exchange rate Commercial banks: -Access to credits -Flexibility of credit allocation -Running of non-bank projects -Fees for funds management -Capital adequacy requirements -Cost of listing -Takeover constraints

20. Stock market and growth  Theoretical debate:  Does stock market support economic growth, capital accumulation, productivity innovation?  How stock market and banks compete in funding firms’ growth?  Possible complementarities

21. Intuition  Simply listing on the national stock exchange does not necessarily foster resource allocation  It must be implemented with the trading of productive technologies  Plus human capital investment