Finance, investment and growth

Finance,InvestmentandGrowthWendyCarlinandColinMayerUniversityCollege,LondonandSaidBusinessSchool,UniversityofOxford18October,1998Commentsonthisdraftwouldbeappreciated.TheresearchforthisprojectwasfundedfromadonationfromthePeterMooresFoundationtotheSaidBusinessSchool.MuchoftheresearchwasdonewhileColinMayerwasonleaveattheDepartmentofEconomicsatStanfordUniversity,andheisgratefulforthefacilitiesthatwereprovided.WeareverygratefultoEsraErdemforoutstandingresearchassistanceontheprojectandtoJennyCorbettandNicholasOultonforprovisionofdataonJapanesebankfinanceandskilllevelsinGermanyrespectively.AbstractThispaperevaluatestherelationsbetweenindustrialactivityandthestructureoffinancialsystems,corporatesectorsandlegalarrangementsindifferentcountries.Usingdatafrom20OECDcountriesin27industriesovertheperiod1970to1995,weevaluatewhetherthereisalinkbetweenindustryactivityandacombinationofcountrystructuresandindustrycharacteristics.Wefindsignificantinterrelationsbetweenthetwobothintermsofindustrygrowthratesandinvestmentshares.Therelationsaresensitivetocountries’stagesofeconomicdevelopment:forexample,thelinkbetweenconcentrationofownershipandeconomicactivityisofoppositesigninlowandhighincomecountries.ThereisstrongevidencethattherelationsbetweenfinancialstructureandeconomicactivitycomethroughexpendituresonR&Dratherthanfixedcapitalformation.Keywords:financialsystems,ownership,legalform,growth,investmentJELclassification:E2,G3,O4Finance,InvestmentandGrowthANon-TechnicalSummaryTherehasbeenmuchdiscussionoveralongperiodoftimeabouttherelationshipbetweenfinancialsystemsandeconomicperformance.Therelativeperformanceofbankandstockmarketorientedfinancialsystemshasbeendiscussedforthebestpartofacenturyandtheproblemsassociatedwithcorporationsbeingwidelyheldbyalargenumberofdispersedshareholdershasbeendebatedsincethe1930’s.Morerecently,attentionhasturnedtotheroleofdifferentlegalandregulatorystructuresinpromotingeconomicgrowth.Despitethelengthandintensityofthedebates,westillknowverylittleaboutthewayinwhichfinancial,corporateandlegalstructuresbearoneconomicperformance.Therehavebeenseveralstudiesthathavelookedatandfoundstrongrelationsbetweenfinancialandeconomicdevelopment.Buttheyareopentoanumberofcriticisms.Firstly,sincetheyareconcernedwithgrowthatthenationallevel,theysufferfromsmallnumbersofobservations.Secondly,theycanonlyprovidelimitedcontrolfortherangeofotherfactors,suchassavingsratesandnon-financialendowments,whichmayinfluenceeconomicperformance.Thirdly,theyhavebeenrestrictedtoassessmentsofwhetherthereisalinkbetweenfinancialandeconomicdevelopment.Theydonotthereforeaddresstherangeofotherquestionsthatlieattheheartofdebatesaboutfinancialsystems.Acentralissueiswhetherstockmarketsorbanksaremoreappropriateforpromotingeconomicdevelopmentand,moresubtly,whetherdifferenttypesoffinancialsystemspromotedifferenttypesofactivity.Forexample,ithasbeensuggestedthatstockmarketsmightbebetteratsupportingnew,riskyactivities(in,forexample,hightechnologyindustries)whereindividualslegitimatelyholddiverseviewsaboutfutureprospectsandstockmarketsperformavaluablefunctioninaggregatingtheseviews.Ontheotherhand,themonitoringofmoreroutineactivities,forexample,investmentinplantandmachinerymaybebetterdelegatedtoafinancialinstitutionwhichcanreducecostsofmonitoring.Similarly,corporatesectorswithconcentratedownershipmayovercomefreeriderproblemsofcorporatecontrolinsomeindustriesbutexacerbateproblemsofprivatebenefitsofcontrolinothers.Whileexistingstudieshavefocusedonaggregateeffectsoffinancialdevelopmentoneconomicperformance,thispaperexaminestherelationshipofthestructureofcountries’financialsystems,corporatesectorsandlegalsystemstolevelsofactivityinindividualindustries.Weexploittheemergenceofanewclassofstatisticsthatprovidesmeasuresofthestructureoffinancial,corporateandlegalsystemsinalargenumberofcountries.Thesehaveopenedupthepossibilityof,forthefirsttime,undertakingseriousanalysisoftherelationbetweenfinance,corporateandlegalgovernanceandeconomicperformance.Wemaptheselargedatabanksoncountrystructurestothecharacteristicsofawidevarietyofmanufacturingindustriesinanattempttoestablishwhetherthereisaninter-relationbetweenthetwo.Specifically,weareinterestedinwhethercountrystructures(financial,corporateandlegalforms)andcharacteristicsofindustries(dependenceon1externalfinanceandinvestmentsinskillsandtraining)arerelatedtolevelsofactivity(growthratesandlevelsofinvestment)oftheseindustriesindifferentcountries.Forexample,dobankorientedfinancialsystemspromotethegrowthofbankdependentindustries?Doownershipconcentrationsencourageinvestmentinskillintensiveindustries?ArestockmarketorientedcountriesassociatedwithinvestmentsinR&D?Weperformthisanalysisbycollectingdataongrowth,fixedcapitalformationandexpendituresonR&Din27manufacturingindustriesin20OECDcountriesover25yearsfrom1970to1995.Wecollectdataoncountrystructuresandindustrycharacteristics.Therearethreetypesofcountrystructurevariables.Thefirstismeasuresofthesizeofstockmarkets,bankingsystemsandownershipconcentration.Thesecondisinformationdisclosure(accou