Bank-based versus Market-based Financial Systems: A Growth-theoretic Analysis

Shankha Chakraborty and Tridip Ray

University of Oregon Economics Department Working Papers from University of Oregon Economics Department

Abstract: We study bank-based and market-based financial systems in an endogenous growth model. Lending to firms is fraught with moral hazard as owner-managers may reduce investment profitability to enjoy private benefits. Bank monitoring partially resolves the agency problem, while market-finance is more ‘hands-off’. A bank-based or market-based system emerges from firm financing choices. It is not possible to say unequivocally which of the two systems is better for growth. The growth rate depends, crucially, on the efficiency of financial and legal institutions. But a bank-based system outperforms a market-based one along other dimensions. Investment and per capita income are higher, and income inequality lower, under a bank-based system. Bank-based systems are more conducive for broad-based industrialization. A temporary income redistribution, under both financial systems, results in permanent improvement in per capita income as well as income distribution.

Keywords: Financial System; Income Distribution; Banks; Market Finance (search for similar items in EconPapers)
JEL-codes: E22 G20 O15 O16 (search for similar items in EconPapers)
Pages: 39
Date: 2003-02-01, Revised 2002-02-01
New Economics Papers: this item is included in nep-cfn, nep-dge, nep-mac and nep-mfd
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Journal Article: Bank-based versus market-based financial systems: A growth-theoretic analysis (2006)
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Persistent link: https://EconPapers.repec.org/RePEc:ore:uoecwp:2003-6

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