6 - Financial intermediation and economic development

Summary

Introduction

How important are financial markets to the construction of a European economic system which fosters growth, development and international trade? The traditional view is that financial markets are simply the ‘handmaiden of industry’, but recent economic research suggests otherwise. In this new view, financial markets play a central role in determining a country's patterns of trade and growth.

The emerging new view of the links between financial markets and growth results from two of the most dynamic subfields of economic research. Economists now have an essentially new perspective on what financial intermediaries do and how the economic growth process works. When combined, as is taking place in ongoing research, these two new views lead us to the conclusion that financial markets can play an important role in the growth process. There is also evidence that crosscountry differences in growth rates have reliable linkages to measures of the size and efficiency of the financial intermediation sector.

The traditional view of financial intermediaries was that these organizations passively funnel household saving to business investment. The ‘new view of financial intermediation’ has a much richer vision of the nature and economic function of these organizations. Indeed, financial intermediaries are viewed as playing an active, perhaps dominant, role in the organization of industry. With their actions, they determine which economic organizations will survive and which will perish, which entrepreneurs will control organizations and which will not, which types of investment can be made and which cannot, and which new economic products can be introduced by firms and which cannot.