Financial structure, firm size and industry growth

This paper provides new empirical evidence to the intensive debate of whether financial structure—the extent to which a country has bank- or market-based is relevant for economic growth. Using the cross-industry and cross-country data, it finds that industries dominated by small firms grow faster in a country with a more bank-based financial system. It also finds that the effect of financial structure on industry growth runs mostly through growth in the number of establishments rather than through growth in the average size of establishments. The evidence is robust to a battery of sensitivity tests. Our research thus provides complementary information on whether financial structure fosters economic growth by disproportionately facilitating the growth of small-firm industry and new firm formation in these industries. Given the importance of small firms for private sector-led growth and limited access to credit of these firms in developing countries, policy toward strengthening bank-oriented financial systems is crucial for their economic growth.