NATIONAL BUREAU OF ECONOMIC RESEARCH
NATIONAL BUREAU OF ECONOMIC RESEARCH

Financial Innovation and Endogenous Growth

Stelios Michalopoulos, Luc Laeven, Ross Levine

NBER Working Paper No. 15356
Issued in September 2009
NBER Program(s):   CF   EFG   IFM

Is financial innovation necessary for sustaining economic growth? To address this question, we build a Schumpeterian model in which entrepreneurs earn profits by inventing better goods and profit-maximizing financiers arise to screen entrepreneurs. The model has two novel features. First, financiers engage in the costly but potentially profitable process of innovation: they can invent better methods for screening entrepreneurs. Second, every screening process becomes less effective as technology advances. The model predicts that technological innovation and economic growth eventually stop unless financiers innovate. Empirical evidence is consistent with this dynamic, synergistic model of financial and technological innovation.

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This paper was revised on April 8, 2014

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Document Object Identifier (DOI): 10.3386/w15356

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