Financial Development And The Growth-Volatility Tradeo : International Evidence
The authors study how financial development affects the economy's growth-volatility profile in a large cross-section of countries. They construct a benchmark industrial composition as the set of sectoral allocations which minimize the economy's long-term volatility for a given level of long-term growth. They find that financial development increases substantially the speed with which the observed sectoral allocation of output converges towards the benchmark. They thus identify one channel through which financial development lowers aggregate volatility, namely, sectoral reallocation.