Industrial diversification, financial development and productive investments

Working papers | 2007 | N 26

Abstract

This work theoretically studies the role of the financial system in promoting growth and macroeconomic stability. It also endogenously explains the development of the financial system as a consequence of industrial (or sectoral) diversification. In the model, the productive sector carries out R&D activities, and finances its activities through the financial system. While vertical innovation encourages economic growth, horizontal innovation creates new industrial sectors, thus generating increased industrial diversification. Greater industrial diversification deepens the financial system since it improves its possibilities of financing the productive sector. A more diversified economy, and therefore more financially developed, will have higher growth rates and be less volatile. There is a role for government to subsidize innovation, especially horizontal innovation. Final version published in the magazine "Economics Ensayos" No. 48 - Year 2007

JEL classification: E22; E32; E44; O16; O30; 041