1. 5/5/2019
Financial dependence and industry growth in Europe: Better banks and higher productivity
Robert Inklaar and Michael Koetter
University of Groningen
2008 World Congress on Measurement
14 May 2008

2. Motivation Better financial development stimulates growth
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Motivation
Better financial development stimulates growth
Broad evidence (Levine, 2005)
Three questions:
What aspects of the financial system?
How is growth affected?
How broadly across Europe?

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Main results
Bank efficiency explains industry growth alongside financial volume measures
Bank efficiency stimulates industry productivity
Growth benefits concentrated in new EU Member States

4. Methodology: finance and growth
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Methodology: finance and growth
Key problem: causality of finance-growth relationship
We rely on Rajan and Zingales (1998) methodology:
Uses industry data and information on dependence on external finance
Assumption: externally dependent industries are more affected by financial development
Uses industry variation to identify the effects of cross-country differences in financial development
Basic estimating equation:
Growth(ij)=b*FinDependence(i)*FinDevelopment(j)+e

5. Methodology: growth Estimate three equations:
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Methodology: growth
Estimate three equations:
Output growth=b(1)*FinDep*FinDev+e
Positive b(1) => confirms Rajan/Zingales
Labour productivity growth=b(2)*FinDep*FinDev+e
Positive b(2) => not just effect on labour growth
Investment growth=b(3)*FinDep*FinDev+e
Positive b(3) => capital accumulation higher
Positive b(2), insignificant b(3) => productivity growth higher

6. Methodology: financial development
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Methodology: financial development
‘True’ financial development not observable, so use of proxies:
Private loans and stock market capitalization to GDP
Proposed here: cost and profit efficiency of banks
How high are costs or profits relative to best performers?
‘Quality’ rather than quantity measure
Estimate stochastic frontier:
explains banks costs/profits by observed outputs (loans, securities), input costs (wages, interest expenses) & time trend (translog function)
Residual can be random error or inefficiency

7. Methodology: financial dependence
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Methodology: financial dependence
Rajan/Zingales: share of investment not financed out of cash flow
Here: debt-asset ratio
Mainly European data limitations
To avoid endogeneity concerns, apply financial dependence of benchmark country
Rajan/Zingales: US
Here: UK (France as robustness check)
Exclude country in question from regressions

8. Data: growth EU KLEMS database
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Data: growth
EU KLEMS database
Developed in Groningen, internationally comparable industry data
Value added and labour productivity growth: 25 industries, EU-25
Investment growth:
25 industries, EU-25 excl. Baltics, Cyprus, Malta
Almost balanced for

9. Data: financial dependence
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Data: financial dependence
Amadeus database: financial accounts for 5mln European firms
Substantial coverage of the economy (Klapper et al. 2006)
Use debt-asset ratios for UK and France
All firms with positive debt and assets
UK: 2.7mln firm-year observations
France: 3.5mln firm-year observations
Use debt-asset ratio of average firm in each industry, averaged over period
Use UK as benchmark because of high financial development

10. Data: financial development
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Data: financial development
Private loans and stock market capitalization (Beck et al.)
Cost efficiency and profit efficiency by country

11. Results: output growth
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Results: output growth
* 10%; ** 5%; *** 1% significant, includes industry & country dummies
Bank efficiency important added dimension
Marginal effect of efficiency higher than for volumes

12. Results: sources of growth
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Results: sources of growth
Higher labour productivity, not investment => higher multifactor productivity
Volume measures less important

13. Results: EU-10 rather than EU-25
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Results: EU-10 rather than EU-25
Stronger results for profit efficiency for EU-10
EU-15: most results disappear => consistent with literature

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Robustness checks
Exclude single industry or country => very similar
France vs. UK as benchmark => very similar
Traditional panel estimates of efficiency scores vs. latent-class estimates => very similar
Growth of gross output vs. value added => very similar
Growth opportunities vs. debt-asset ratios => similar but weaker

15. 5/5/2019
Conclusions
Bank efficiency important in addition to financial volumes for growth
Productivity-enhancing effect mostly from bank efficiency
Growth benefits from financial development improvements concentrated in new EU member states