Financial Innovation and Endogenous Growth

HOOVER IP² Working Paper Series No. 14002

40 Pages Posted: 23 Jan 2014 Last revised: 6 Sep 2014

See all articles by Luc Laeven

Luc Laeven

European Central Bank (ECB); Centre for Economic Policy Research (CEPR)

Ross Levine

University of California, Berkeley - Haas School of Business; National Bureau of Economic Research (NBER)

Stelios Michalopoulos

Brown University - Department of Economics; Brown University

Multiple version iconThere are 4 versions of this paper

Date Written: December 5, 2013

Abstract

We model technological and financial innovation as reflecting the decisions of profit-maximizing agents and explore the implications for economic growth. We start with a Schumpeterian model where entrepreneurs earn profits by inventing better goods and financiers arise to screen entrepreneurs. A novel feature of our model is that financiers also engage in the costly, risky, and potentially profitable process of innovation: Financiers can invent more effective processes for screening entrepreneurs. Every screening process, however, becomes less effective as technology advances, i.e., informational asymmetries evolve endogenously. The model predicts, therefore, that technological innovation and economic growth eventually stop unless financiers innovate to enhance screening. Empirical evidence is consistent with this dynamic, synergistic model of financial and technological innovation and economic growth.

Keywords: screening, financial intermediation, invention, economic growth, corporate finance, technological change, entrepreneurship

JEL Classification: G0, O31, O4

Suggested Citation

Laeven, Luc A. and Levine, Ross Eric and Michalopoulos, Stelios, Financial Innovation and Endogenous Growth (December 5, 2013). HOOVER IP² Working Paper Series No. 14002, Available at SSRN: https://ssrn.com/abstract=2382748 or http://dx.doi.org/10.2139/ssrn.2382748

Luc A. Laeven

European Central Bank (ECB) ( email )

Sonnemannstrasse 22
Frankfurt am Main, 60314
Germany

Centre for Economic Policy Research (CEPR)

London
United Kingdom

Ross Eric Levine (Contact Author)

University of California, Berkeley - Haas School of Business ( email )

545 Student Services Building, #1900
2220 Piedmont Avenue
Berkeley, CA 94720
United States

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Stelios Michalopoulos

Brown University - Department of Economics ( email )

64 Waterman Street
Providence, RI 02912
United States

HOME PAGE: http://https://sites.google.com/site/steliosecon/

Brown University ( email )

Box 1860
Providence, RI 02912
United States

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