Financial development, sectoral reallocation, and volatility: International evidence ¬リニ

a r t i c l e i n f o This paper studies how financial development affects the volatility of GDP growth through the channel of sectoral reallocation. For 28 OECD countries over the period 1970–2007, we construct a benchmark industrial portfolio that minimizes the economy's long-term volatility for a given level of long-term labor productivity growth. We find that financial development substantially increases the speed with which the observed industrial composition of output converges toward the benchmark. To overcome endogeneity concerns, we exploit sectoral sensitivities to financial deepening and exogenous liberalization events. A large empirical literature over the past two decades has documented important growth benefits of financial development, but does higher growth come at the cost of increased economic volatility? While frequent financial crises in both developing and developed countries seem to suggest that the answer is " yes, " the literature has identified two channels through which financial development can in fact reduce growth volatility. The first is the stabilization of intrasectoral output. Braun and Larrain (2005) and Raddatz (2006) use sectoral data on value added in large cross-sections of countries, and find that financial development lowers output volatility, more so in financially vulnerable sectors. As long as industrial shares and the correlations of sectoral output remain constant, these results imply a reduction in overall volatility. Second, financial development can induce an intersectoral reallocation of output away from sectors with a large contribution to aggregate volatility. This argument relies on a portfolio optimization mechanism a la Markowitz (1952) that exploits the correlations in sectoral returns across sectors. Using this approach, Acharya et al. (2011) show that branching deregulation in the United States has reduced state business-cycle volatility through a reallocation of output toward sectors with a large optimal weight implied by mean-variance efficiency. This paper contributes to the literature by testing the second mechanism in an international context. In theory, diversification of output through the channel of volatility-reducing reallocation may not be a universal outcome of financial development if it depends on the superior institutional features of a particular country (the United States). Our results strongly suggest that this is not the case. Our approach is as follows. We first acquire data on output and employment for nine sectors for 28 OECD countries starting in 1970. We use these data to construct, for each country, a benchmark set of optimal sectoral employment shares, which minimizes long-term …