Abstract

Motivated by the literature on the finance – growth nexus, this paper explores the mechanisms through which finance affects corporate investments and capital accumulation. We separate the effects of financial conditions from those of financial development. Based on a sample of firms from five Asian emerging economies, we find that (1) financial conditions and financial development affect corporate investments through different channels. Financial conditions affect firms’ growth opportunities and investment demand. Financial development primarily affects firms’ external financing constraints. (2) Large firms benefit more from improved financial conditions, while small firms benefit more from financial development. (3) The effects of financial conditions and the level of financial development are asymmetric: they are stronger when the global financial crisis was unfolding and weaker during the subsequent rebound.

Highlights

  • Following seminal papers by King and Levine (1993a, 1993b), there has been a large body of evidence showing a causal effect from financial development to economic growth.1 Countries with well-developed financial systems, e.g., large banks and active financial markets, have higher future growth.The theoretical underpinning of the finance–growth nexus can be traced to Schumpeter (1912), who argues that banks play an important role in the adoption of new technologies

  • Motivated by the literature on the finance–growth nexus, this paper explores the mechanisms through which finance affects corporate investments and capital accumulation

  • A key feature of our study is the separation of the effects of financial conditions from those of financial development

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Summary

Introduction

Following seminal papers by King and Levine (1993a, 1993b), there has been a large body of evidence showing a causal effect from financial development to economic growth. Countries with well-developed financial systems, e.g., large banks and active financial markets, have higher future growth.The theoretical underpinning of the finance–growth nexus can be traced to Schumpeter (1912), who argues that banks play an important role in the adoption of new technologies. Following seminal papers by King and Levine (1993a, 1993b), there has been a large body of evidence showing a causal effect from financial development to economic growth.. Levine (1997) provides a comprehensive discussion in which financial systems promote economic growth through facilitating capital accumulation and technological innovation. Subsequent studies have explored the empirical link from financial systems to capital accumulation and technological innovation. Rajan and Zingales (1998) provide evidence that industries that are more reliant on external finance grow faster in countries with more developed financial markets. Love (2003) finds that financial development reduces the reliance of corporate investments on internal funds, promoting capital accumulation and growth. E.g., Claessens and Laeven (2005) and Love and Peria (2012), have explored the impact of bank competition on firms’ financing constraint

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