Abstract
Financial repression policies (lowering real interest rates, selective credits and other restrictions on financial markets, products and institutions) have been widely discussed in the economic literature during the last four decades. A key question is ‘why governments would opt for financial repression policies in the first place’? As an answer, governments’ desire to obtain rents from the financial system or to manage public debt servicing have been suggested as the typical underlying incentives. It has been argued in 1970s and 1980s that especially in developing economies, financial repression would have negative consequences on economic growth and financial development, although more recently financial repression policies are back as governments in the developed economies aim at obtaining low-cost funds from the financial markets in the aftermath of the global financial crises.In this article, a simple two-sector model is set up in order to show that governments may institute financial repression policies to internalise production and investment externalities. It is shown that such a government policy is welfare improving and abolishment of selective credits may cause welfare loss. The model also provides a case where financial policy is designed according to the priorities of industrial policy.
Highlights
Financial Repression policies – in the form of ceilings on nominal interest rates, selective credits and other restrictions on financial markets, products and institutions – have been widely discussed in the economic literature during the last four decades
A key question is ‘why governments would opt for financial repression policies in the first place’? As an answer, governments’ desire to obtain rents from the financial system or to manage public debt servicing have been suggested as the typical underlying incentives
It has been argued in 1970s and 1980s that especially in developing economies, financial repression would have negative consequences on economic growth and financial development, more recently financial repression policies are back as governments in the developed economies aim at obtaining low-cost funds from the financial markets in the aftermath of the global financial crises.In this article, a simple two-sector model is set up in order to show that governments may institute financial repression policies to internalise production and investment externalities
Summary
Financial Repression policies – in the form of ceilings on nominal interest rates, selective credits and other restrictions on financial markets, products and institutions – have been widely discussed in the economic literature during the last four decades. Governments’ desire to obtain rents from the financial system or to manage public debt servicing are suggested as the typical underlying incentives Along these lines, McKinnon (1973) and Shaw (1973) have argued that, especially for developing economies, financial repression would have negative consequences on economic growth and financial. The latter have used repressionist policies, including selective credits to accelerate industrialisation and economic growth. We argue in this article that selective credit policies, as a type of financial and industrial policies, may have desirable welfare consequences To elaborate on these issues, we utilise a simple model with two available production technologies, producing the same- and the only-consumption-investment good.
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