Stock Markets and Resource Allocation (Reprint 036)

Franklin Allen

Rodney L. White Center for Financial Research Working Papers from Wharton School Rodney L. White Center for Financial Research

Abstract: In some countries, such as the U.S. and the U.K., stock markets have played an important role in the allocation of resources while in others, such as France, Germany and Japan, only banks have played an important role. This paper investigates the relative advantages that stock markets and banks have in providing finance for industry. It is argued that stock markets are desirable when investors disagree on the optimal policies a firm should pursue because they allow diversity of opinion to be taken account of; this type of situation is likely in new industries or those with an oligopolistic or monopolistic structure. Banks, on the other hand, are desirable when there is wide agreement on optimal policies as in most competitive industries.

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