American Economic Review: Vol. 101 No. 5 (August 2011)


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Finance and Development: A Tale of Two Sectors

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Buera, Francisco J., Joseph P. Kaboski, and Yongseok Shin. 2011. "Finance and Development: A Tale of Two Sectors." American Economic Review, 101(5): 1964-2002.

DOI: 10.1257/aer.101.5.1964


We develop a quantitative framework to explain the relationship between aggregate/sector-level total factor productivity (TFP) and financial development across countries. Financial frictions distort the allocation of capital and entrepreneurial talent across production units, adversely affecting measured productivity. In our model, sectors with larger scales of operation (e.g., manufacturing) have more financing needs, and are hence disproportionately vulnerable to financial frictions. Our quantitative analysis shows that financial frictions account for a substantial part of the observed cross-country differences in output per worker, aggregate TFP, sector-level relative productivity, and capital-to-output ratios. (JEL E23, E44, O41, O47)

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Buera, Francisco J. (UCLA)
Kaboski, Joseph P. (U Notre Dame)
Shin, Yongseok (Washington U in St Louis and Federal Reserve Bank of St Louis)

JEL Classifications

E23: Macroeconomics: Production
E44: Financial Markets and the Macroeconomy
O41: One, Two, and Multisector Growth Models
O47: Measurement of Economic Growth; Aggregate Productivity; Cross-Country Output Convergence

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