Discussion Paper

No. 2012-45 | September 10, 2012
The Finance-Growth Nexus Revisited: From Origins to a Modern Theoretical Landscape
(Submitted for Survey and Overview)


The paper is a survey of theoretical and empirical approaches applied to analyze the impact of financial system on economic growth. The key issues of the modern theories of the finance-growth nexus are discussed and the theories are classified on the basis of the methodology they rely on. The paper extends earlier overviews of the topic, tracking and seeking to explain an inherent logic of this research program, its evolution, and some issues not covered in other surveys such as the finance-growth nexus in resource rich economies. The challenges this research program is facing are also identified.

JEL Classification

E44 O11 O16

Cite As

Mikhail Stolbov (2012). The Finance-Growth Nexus Revisited: From Origins to a Modern Theoretical Landscape. Economics Discussion Papers, No 2012-45, Kiel Institute for the World Economy. http://www.economics-ejournal.org/economics/discussionpapers/2012-45


Comments and Questions

Anonymous - Referee Report 1
October 16, 2012 - 14:51

The paper attempts to review the theoretical and empirical literature on the link between financial markets and economic growth in the past 150 years. It is a good review of the early stages of the literature and makes valuable observations on some of the main challenges facing the empirical identification ...[more]

... of the effect of finance on growth. While there are plenty of reviews by some of the main figures in this field (Beck, Levine, Wachtel, etc.), most of those only talk very briefly and in insufficient detail about the literature before Cameron (1967) and McKinnon (1973), and even before King and Levine (1993). In that sense, this paper makes a potentially valuable contribution in tracing in richer the origins of the finance-and-growth literature in the 19th century. However, I believe that the fails in summarizing well enough 1) the vast empirical literature on the finance-and-growth nexus in the past 20 years, and 2) the main deficiencies of the empirical literature.

Main strengths:

The paper summarizes arguments pertaining to Marxian economics and to the Keynesian-Robinsonian view of the role of finance. This is relatively novel in mainstream reviews.

It is refreshing how much time is spent on pre-WWII studies. Still, the quote from Bagehot on page 3 is a bit too long.

The paper does a good job in relating the development of finance-and-growth theory to surrounding economic circumstances, like the Industrial Revolution, the Great Depression, the financial liberalization wave of the 1980s, etc.

The paper is thoughtful in identifying three of the main challenges in principle faced by the empirical finance-and-growth literature – that the results are not equally strong across country samples and sample periods, and the problems associated with establishing causality and monotonicity.

Main weaknesses:

While deep and detailed about the early literature, the paper is very cursory with respect to the “modern” theoretical and empirical foundations of the finance-and-growth literature.

This hurts the argument of the authors as they point to persisting problems which the literature has already addressed. For example, the authors claim that the question “does finance push growth or is pulled by the latter” “hasn’t received any final answer so far”. There have been great advances in that respect based on using more micro data (like industry-level data as in Rajan and Zingales (1998) and firm-level data as in Bertrand, Schoar, and Thesmar (2007)). Also, the Iv approach based on legal origin is only cursorily referred to.

The part describing the advances in incorporating financial intermediation in various growth theories is very poor in references. Seminal contributions like Evans and Jovanovic (1989), Greenwood and Jovanovic (1990), Bencivenga and Smith (1991), and King and Levine (1993b), describing the impact of finance on the likes of new business creation and the distribution of income are missing. The vast existing theory is described in a very stylized way and doesn’t tell the whole story.

In the “challenges” part, many non-monotinicity papers published in good journals, such as Rioja and Valev (2004), and Shen and Lee (2006), are missing.

On the same note, some of the challenges identified by the authors are included in Section 5 rather than in Section 6 where they belong.

The challenges currently identified in Section 6 – measuring the effect over properly long time periods, and improving data in the dimension of inclusivity and not only in the dimension of depth – are nice, but they are just a start. No mention is made of more pressing problems, like that fact that the literature has mostly focused on the first moment of growth and paid little attention on the variability of growth, to the effect of financial crises, and to using more granular data, like data on bank-firm relationships.

Mikhail Stolbov - Reply to the Referee Report
October 17, 2012 - 10:52

Herein I attach my reply to the Referee report 1

Heribert Genreith - commendation
October 17, 2012 - 15:28

For some formulas I added a PDF.

Mikhail Stolbov - Reply to Prof. Genreith's comment
October 17, 2012 - 16:14

Dear Prof. Genreith,
I am thankful to you for the remarks on my paper that confirm my verbal, non-technical generalizations. It will be instructive for me to learn more about your macrofinancial approach by reading "Economic Engineering". In Russia, econophysics has been gaining momentum, yet most of the focus is ...[more]

... microeconomic (stock market dynamics and debt sustainability). That is why your approach is particularly interesting for me.

Robert May - Invited Reader Comment
November 26, 2012 - 12:17

See attached file