Finance, entrepreneurship, and growth

King, Robert G. & Levine, Ross, 1993. "Finance, entrepreneurship and growth: Theory and evidence," Journal of Monetary Economics, Elsevier, vol. 32(3), pages 513-542, December.

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Abstract - Introduction

How do financial systems affect economic growth? We construct an endogenous growth model in which financial systems evaluate prospective entrepreneurs, mobilize savings to finance the most promising productivity-enhancing activities, diversify the risks associated with these innovative activities, and reveal the expected profits from engaging in innovation rather than the production of existing goods using existing methods. Better financial systems improve the probability of successful innovation and thereby accelerate economic growth. Similarly, financial sector distortions reduce the rate of economic growth by reducing the rate of innovation. A broad battery of evidence suggests that financial systems are important for productivity growth and economic development.

In this paper, we develop an endogenous growth model featuring connections between finance, entrepreneurship, and economic growth suggested by the insights of Frank Knight (1951) and Joseph Schumpeter (1912). We combine the Knightian role of entrepreneurs in initiating economic activities with two ideas of Schumpeter. First, we build on the well-known Schumpeterian view that innovations are induced by a search for temporary monopoly profits. Second, we incorporate the less well-known Schumpeterian idea that financial institutions are important because they evaluate and finance entrepreneurs in their initiation of innovative activity and the bringing of new products to market.


Authors

Robert G. King (born May 24, 1951) is a macroeconomist. He is currently Professor at the Department of Economics at Boston University, editor of the Journal of Monetary Economics, research consultant to the Federal Reserve Bank of Richmond, and a member of the National Bureau of Economic Research.

Before that he was a professor at the University of Rochester and then at the University of Virginia.
King has many distinguished students, including Jeremy Greenwood, Sergio Rebelo, and Julia Thomas. He is married to another macroeconomist, Marianne Baxter.

King's work spans many areas, including business cycle theory and measurement, real business cycle theory, monetary policy, and economic growth.

Ross Levine (born April 16, 1960) is an American economist who currently holds the Willis H. Booth Chair in Banking and Finance at the  University of California at Berkeley. He is also a Senior Fellow at the Milken Institute and an advisor to the World Economic Forum.

Levine specializes in international finance, banking regulation, and economic development. Specifically, his research focuses on the links between financial intermediaries and economic growth.[4] He has also examined bank supervision and corruption.

He has written extensively on the financial crisis of 2007–2010. In April 2010, he published An Autopsy of the U.S. Financial System, which investigated the causes of the crisis. He found that while financial institutions played a major role in the system's collapse, regulatory policies during the period from 1996-2006 also contributed to the crisis. He likens the government's role to negligent homicide:

“The evidence indicates that senior policymakers repeatedly designed, implemented, and maintained policies that destabilized the global financial system in the decade before the crisis. The policies incentivized financial institutions to engage in activities that generated enormous short-run profits but dramatically increased long-run fragility. Moreover, the evidence suggests that the regulatory agencies were aware of the consequences of their policies and yet chose not to modify those policies."