Financial deepening and economic growth

Keshab Bhattarai

Applied Economics, 2015, vol. 47, issue 11, 1133-1150

Abstract: The core of Shapley-Shubik games and general equilibrium models with a Venn diagram is applied for a theory on the role of real finance in economic growth among advanced economies. Then the dynamic computable general equilibrium (DCGE) models for Germany, France, the UK, Japan and the USA are constructed to assess the validity of the over-financing hypothesis that has reappeared after the financial crisis of 2008. Actual financial deepening ratios observed in the nonconsolidated balance sheet of the OECD exceeded by factors of 3.5, 2.4, 5.1, 11.6 and 4.8 than the optimal financial deepening ratios implied by DCGE models, respectively, in these countries because of excessive leveraging and bubbles up to 19 times of GDP which were responsible for this great recession. Containing such massive fluctuations for macroeconomic stability and growth in these economies are not possible in conventional fiscal and monetary policy models and require a DCGE analysis like this along with adoption of separating equilibrium strategy in line of Miller-Stiglitz-Roth mechanisms to avoid problem of asymmetric information in the process of financial intermediation so that the gaps between actual and optimal ratios of financial deepening remain as small as possible.

Date: 2015
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Citations: View citations in EconPapers (18)

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Working Paper: Financial Deepening and Economic Growth (2013)
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DOI: 10.1080/00036846.2014.993130

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