Financing Development: The Role of Information Costs

63 Pages Posted: 27 Jun 2007  

Jeremy Greenwood

University of Pennsylvania - Department of Economics; National Bureau of Economic Research (NBER)

Juan M. Sánchez

Federal Reserve Banks - Federal Reserve Bank of St. Louis

Cheng Wang

University of Iowa

Multiple version iconThere are 2 versions of this paper

Date Written: May 2007

Abstract

How does technological progress in financial intermediation affect the economy? To address this question a costly-state verification framework is embedded into a standard growth model. In particular, financial intermediaries can invest resources to monitor the returns earned by firms. The inability to monitor perfectly leads to firms earning rents. Undeserving firms are financed, while deserving ones are under funded. A more efficient monitoring technology squeezes the rents earned by firms. With technological advance in the financial sector, the economy moves continuously from a credit-rationing equilibrium to a perfectly efficient competitive equilibrium. A numerical example suggests that finance is important for growth.

Suggested Citation

Greenwood, Jeremy and Sánchez, Juan M. and Wang, Cheng, Financing Development: The Role of Information Costs (May 2007). NBER Working Paper No. w13104. Available at SSRN: https://ssrn.com/abstract=986954

Jeremy Greenwood (Contact Author)

University of Pennsylvania - Department of Economics ( email )

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National Bureau of Economic Research (NBER)

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Juan M. Sanchez

Federal Reserve Banks - Federal Reserve Bank of St. Louis ( email )

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Cheng Wang

University of Iowa ( email )

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Iowa City, IA 52242-1097
United States

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