Financial Liberalization: Does It Pay to Join the Party?

Abstract

Financial liberalization is a highly controversial policy. Despite the fact that almost all the regions of the world have undergone liberalization of their financial markets, its effect on the performance of different economic sectors remains a question. In our research, we find that financial liberalization reduces the cost of capital, boosting the relative growth rates of economic sectors that for technological reasons rely heavily on external (to the firm) finance. This result, however, depends on the quality of institutions supporting credit markets. The effects of financial liberalization are more notable in countries that have and enforce regulations to protect property rights. In this sense, the answer to the question in the title of the paper is not clear-cut. The impact of financial liberalization on growth depends on underlying institutional factors.