The Macroeconomic Effects Of Financial Development:a View From Financialization

After the start of 1980 s,many countries make a broad effort to loosen financial regulation.Consequently,there is a lot of financial innovation emerging in the financial market,and the proportion of the financial sector in the national economy has been increasing rapidly,whose profits surge a lot as well;that is,the financialization process intensifies,which is a major feature of the global economy.Besides,many scholars noticed that financialization has appeared in China,and in recent years the trend is getting stronger.Based on this backgroud,this paper explores the macroeconomic effects of financialization from three perspectives,that is,economic growth,income distribution and financial stability.First,a large number of recent empirical studies show that the empirical relationship between financial development and economic growth is not positively linear as the conventional wisdom suggests,which instead follows an inverted “U” shape or is negatively linear in some situations.Futhuremore,some research finds that financial development has a significant negative impact on the labor productivity.This paper presents an economic model to explain these facts.In short,we argue that financial development can reduce the financing costs of the real economy,which is benifitial for economic growth,but if the financial sector's profits increase substantially,financial development can result in a lot of high-quality human capital flowing into the financial sector,which implies an equal amount of human capital leaving the real economy complementarily.Because the real economy is the ultimate source and driver of value creation,whose technology progress depends heavily on the quality of available human capital inflows,too much finance(i.e.financialization)can negatively affect technological progress,undermining the long-run economic growth potential.Second,this paper use all developed economies(1980-2010)as sample,and take advantage of new empirical methods to explore the empirical relationship between financialization and economic growth.The empirical exercises show that financialization is significantly negatively related with the long-run economic growth in the developed world.Third,recently a growing body of evidence suggests income inequality has risen in the world,especially in the advanced economies,so there has been widespread concern regarding the problem in the academic and policy-making communities.Many scholars believe that too much income equality is destructive to the fairness and justice,and undermines the long-run economic growth potential,as well as crystalizes and solidifies the social structure,sowing seeds of political instability.Based on a financialization perspective,this paper examines the causes of the rising income inequality,showing that financialization and the Gini coefficient are significantly positively related.Finally,the empirical results show that financialization is not conducive to financial stability,that is,it can increase the probability of financial crisis.We argue that,because financialization results in more financial institutions that are more connected than before,a highly intermediated economy is more vulnerable to negative economic shocks,even though the original shocks are relatively small.The reason is that when some financial institutions are hitted by negative shocks,the shocks can spread to the other connected financial institutions through the financial network,affecting the entire financial sector.All in all,this paper suggests that,in terms of the overall economy,financialization does more harm than good.In eccense,compared to the real economy,the financial sector should be a “servicer”,whose main value depends on whether it can effectively reduce the financing costs of the real economy.If the financial sector becomes a “master” in the national economy,and get a lot of high quality human capital,then even it may be albe to produce short-run economic prosperity(for example,before the subprime crisis securitization brings the economic prosperity in the United States),because of the resource misallocation and asset bubbles,financialization hurts income distribution,and generates more economic crises,as well as weakens the long-term economic growth potential.Therefore,from the economic policy perspective,it is necessary for governments to strengthen financial regulaton,and limit financial innovation.This paper suggests the financial sector,especially the high-income financial professionals,should be taxed heavily.Moreover,it is necessary to change the current corporate governance model in order to limit the financial sector's controlling power over the real economy.