U N I T E D N AT I O N S C O N F E R E N C E O N T R A D E A N D D E V E L O P M E N T

MULTI-YEAR EXPERT MEETING ON TRADE, SERVICES AND DEVELOPMENT Geneva, 11–13 May 2015

FINANCE AND ECONOMIC DEVELOPMENT:KNOWN KNOWNS, KNOWN UNKNOWNS,

AND UNKNOWN UNKNOWNSSESSION 3

Mr. Ugo Panizza Professor of Economics and Department

Head, Pictet Chair in Finance and DevelopmentThe Graduate Institute of International and Development Studies

Switzerland

Finance and Economic Development

Ugo Panizza

MULTI-YEAR EXPERT MEETING ON TRADE, SERVICES AND DEVELOPMENT THIRD SESSION, UNCTAD 11-13 May 201

Known Knowns, Known Unknowns, and Unknown Unknowns

Background readings

• J.L. Arcand E. Berkes & U. Panizza (2015) “Too Much Finance?” Journal of Economic Growth

• U. Panizza (2014) “Financial Development and Economic Growth: Known Knowns, Known Unknowns, and Unknown Unknowns, Revue d.économie du

• U. Panizza (2012) “Finance and Economic Development,” International Development Policy

• E. Levy-Yeyati, A. Micco & U. Panizza (2004) A Reappraisal of State-Owned Banks, Economia

• E. Fernandez-Arias, R. Hausmann, and U. Panizza (2015) “Smart Development Banks” mimeo

Outline

• Known Knowns – The traditional literature – The new literature – The new-new literature

• Known Unknowns • Unknown Unknowns

– Two types of banks, two views

Known Knowns (1)

• The traditional literature – Goldsmith (1969) – King and Levine (1993) – Beck, Levine, and Loayza (2000) – Levine, Loayza, and Beck (2000) – Rajan and Zingales (1998)

Known Knowns (2)

• The new literature – Rousseau and Wachtel (2011) – Arcand, Berkes, and Panizza (2012) – Beck et al. (2012)

Vanishing Effect (panel data)

0

0.2

0.4

0.6

0.8

1

1.2

1.4

1.6

1.8

2

1960-95 1960-00 1960-05 1960-10

dGRO

WTH

/dFD

Not statistically significant

Source: Arcand et al. (2012)

Too much finance? -2

0-1

00

10dG

R/d

PC

0 .5 1 1.5 2 2.5Credit to Private Sector/GDP

Source: Arcand et al. (2012)

Who gets the credit?

ARG

AUS

AUT

BEL

BGR

CAN

CRI

CZE

DEN

EGY

EST

FIN

FRA

DEU

GRC

HUN

ISL

IND IDN

IRL

JAM

JAP

KNY

KOR

LTV LTH

MKD

MYS

MEX

NLD

NZL

PAK POL

PRT

RUS

SVK SLV

SAF SWE

CHE

THL

TUR

GBR

USA

URY

0 .2

.4

.6

.8

1

1.2

1.4

1.6

1.8

Cre

dit t

o th

e pr

ivat

e se

ctor

(%G

DP)

0 .1 .2 .3 .4 .5 .6 .7 .8 .9 1 Share of household credit

𝑷𝑷𝑷𝑷 = 𝟎𝟎.𝟑𝟑𝟑𝟑 + 𝟎𝟎.𝟔𝟔𝟔𝟔 × 𝑷𝑷𝑷𝑷(𝟐𝟐.𝟎𝟎𝟎𝟎) (𝟏𝟏.𝟖𝟖𝟑𝟑)

𝑹𝑹𝟐𝟐 = 𝟎𝟎.𝟎𝟎𝟕𝟕

Source: Own elaborations based on data from Beck et al. (2012)

Known Knowns (3)

• The new-new literature – Laeven et al. (2013) – Beck et al. (2013) – Kneer (2013)

Known Unknowns • Causality

– Some problems with cross-country exercises – Industry (or firm)-level exercise only allow for relative

statements • Measurement & Channels • Dark side of finance

– Crises – Allocation of talent – Politics – Types of credit

• Firm-level data – But with general equilibrium considerations

Unknown Unknowns

It's not what you don't know that kills you, it's what you know for sure that ain't true Attributed to Mark Twain

014

2842

5670

1970 1980 1990 2000 2010YEAR

All Countries

014

2842

5670

1970 1980 1990 2000 2010YEAR

Advanced Economies

014

2842

5670

1970 1980 1990 2000 2010YEAR

LAC0

1428

4256

70

1970 1980 1990 2000 2010YEAR

Other Developing Countries

% o

f Ban

k A

sset

s

Government Ownership of Banks

Unknown Unknowns

• State-owned banks remain important • But the profession does not love them • "state ownership tends to stunt financial

sector development, thereby contributing to slower growth" (World Bank, 2001)

• What do the data say? • Are the profession's views internally

consistent?

State-Owned Banks The evidence

• At the cross-country-level, there is a negative correlation between the presence of state-owned banks and each of financial development and economic growth, but they are less procyclical than private banks – La Porta, Lopez de Silanes, and Shleifer (2002); Micco and

Panizza (2006) • State-owned banks are less profitable than private

banks – Micco, Panizza, and Yanez (2007)

• State-owned banks engage into political lending – Micco, Panizza, and Yanez (2007)

State-Owned Banks The evidence

• No evidence of a causal relationship between state-ownership and development outcomes – Levy Yeyati, Micco, and Panizza (2008)

• A state-owned bank which is as profitable as a private bank is probably useless – De la Torre et al. (2007)

• Political lending is indeed a problem

A different-type of state-owned bank, similar empirical evidence

• The World Bank (IBRD) – Does it have an effect on economic growth?

• We don’t know!

– Is it as profitable as Goldman Sachs? • We don’t care!

– Does it engage into political lending? • YES it does! (Dreher et al., 2009, 2013)

A different-type of state-owned bank, similar empirical evidence

• Erwin Blumenthal (early 1980s) – There is not any – I repeat any –chance on the horizon that

the numerous creditors of Zaire will recoup their funds • (Ndikumana and Boyce, 2011)

• Ronald Reagan (1986) – Cooperation between the United States and Zaire under

President Mobutu's leadership stretches back through 20 years … Mobutu and his people face a heavy foreign debt burden. We have encouraged Zaire to hold firm to the responsible, economic reforms it is attempting, while promising to do our best to ease the way

…and money kept flowing

Zaire: Net Financial Flows and External Debt to GDP Ratio

-50

0

50

100

150

200

250

300

350

400

1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990

Mill

ion

Cur

rent

USD

0

20

40

60

80

100

120

140

per c

ent o

f GD

P

Other net flowsMultilateral net flowsBilateral net flowsExternal debt stocks (right axis)

A different-type of state-owned bank, different evaluation criteria

• The consensus on how state-owned development banks should operate (Gutierrez et al., 2011) – Target well-identified market gaps – Do not crowd out the private sector

• MDBs that lend to counties target a well-identified market failure associated with credit constraints generated by lack of enforceability of sovereign debt contracts – Panizza, Sturzenegger, and Zettelmeyer (2008)

• But do MDBs lend to credit constrained countries?

Do MDBs lend to credit constrained countries?

Mexico 10%

China 10%

Turkey 9%

India 9%

Indonesia 8% Brazil

7%

Colombia 6%

Argentina 4%

Romania 3%

Ukraine 2%

Remaining 57 countries

32%

Composition of IBRD outstanding loans (2011)

Total outstanding loans: approximately USD130 billion to 67 borrowers

World Bank and China

• Why does the World Bank lend to China? – Cross-subsidization

• Why does China borrow from the World Bank? – Political power – Knowledge transfer – But, why should knowledge transfer be bundled

with lending? – How does the World Bank get the knowledge?

• Fernandez-Arias, Hausmann, and Panizza (2014)

Finance and Economic Development

Ugo Panizza

Known Knowns, Known Unknowns, and Unknown Unknowns