Stock markets and development

This paper asks if financial development (especially stock-market development) affects the level and/or the growth rate of economic activity. It finds a substantial effect on both. Current wisdom suggests that the growth effects of financial intermediation could be either permanent or transitory. For instance, the Greenwood-Jovanovic (1990) (henceforth GJ) model has an ‘AK’ stucture, with no diminishing returns to the reproducible factor, and a permanent, exogenous improvement in financial structure would cause a permanent increase in the rate of growth. ’ On the other hand, if the returns to the reproducible factor did diminish, better intermediation could lead only to level effects. Since one should not a priori exclude either growth effects or level effects, we shall look for both. Our search for growth effects will use the GJ model; our search for level effects will rely on an amended version of the Mankiw, Romer and Weil ( 1992) (henceforth MRW) structure.