Before And After Financial Liberalization

The impact of changes in real interest rates on saving, investment, and economic growth, is a central issue in macroeconomics. Not surprisingly, the debate on the relative merits of domestic and external financial liberalization has a long history. In the earlier literature on the subject, McKinnon (1973) and Shaw (1973) posited that financial liberalization would lead to higher levels of investment and output growth. Liberalization would also channel funds towards financing the more productive projects. According to this familiar view, an increase in real interest rates following liberalization should encourage saving and expand the supply of credit available to domestic investors, thereby enabling the economy to grow more quickly.