Is There an Optimal Size for the Financial Sector

The Wharton Financial Institutions Center Working Paper No. 98-35B

32 Pages Posted: 13 Apr 1999

See all articles by Anthony M. Santomero

Anthony M. Santomero

University of Pennsylvania - The Wharton School

John J. Seater

Economics Dept., Boston College

Date Written: February 1999

Abstract

This paper derives the optimal size of the financial sector using a general equilibrium framework that is an extension of Holmstrom and Tirole's 1997 paper. We show that the financial sector has a unique optimal size relative to the size of the economy as a whole. Creating and maintaining this sector requires diversion of some physical capital from production of output to monitoring that production. However, the efficiency gain in output production brought about by monitoring warrants the diversion. It is also found that the optimal size of the financial sector is independent of the state of the economy and does not vary over the business cycle.

JEL Classification: E44, E42, E51, G2

Suggested Citation

Santomero, Anthony M. and Seater, John J., Is There an Optimal Size for the Financial Sector (February 1999). The Wharton Financial Institutions Center Working Paper No. 98-35B. Available at SSRN: https://ssrn.com/abstract=152008 or http://dx.doi.org/10.2139/ssrn.152008

Anthony M. Santomero (Contact Author)

University of Pennsylvania - The Wharton School

3641 Locust Walk
Philadelphia, PA 19104-6365
United States

John J. Seater

Economics Dept., Boston College ( email )

140 Commonwealth Avenue
Chestnut Hill, MA 02467
United States

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