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Real and Financial Sector Linkages in China and India

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  • Mr. Jahangir Aziz

Abstract

In the spirit of what is known as business cycle accounting, this paper finds that the investment wedge-the gap between household's rate of intertemporal substitution and the marginal product of capital-is large and quantitatively significant in explaining China's and India's growth. Specific financial sector policies are shown to map well the size and changes in the investment wedge. In the case of China, nonperforming loans, borrowing constraints, and uncertainty over changes in government guidance in bank lending, have implied large transfers from households to firms that have kept capital cost low and encouraged investment. In the case of India, post-1992 financial sector reforms, particularly the reduction in the funds preempted by the government from the banking system, has played an important role in reducing the cost of capital. Simulations show that for rebalancing growth in China and sustaining high investment rate in India, further financial sector reforms could turn out to be key.

Suggested Citation

  • Mr. Jahangir Aziz, 2008. "Real and Financial Sector Linkages in China and India," IMF Working Papers 2008/095, International Monetary Fund.
    • Handle: RePEc:imf:imfwpa:2008/095
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    Cited by:

    1. International Monetary Fund, 2010. "Price Dynamics in China," IMF Working Papers 2010/221, International Monetary Fund.
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    3. Ms. Yuanyan S Zhang, 2011. "Credit Market Imperfection and Sectoral Asymmetry of Chinese Business Cycle," IMF Working Papers 2011/118, International Monetary Fund.
    4. Bhattacharjee, Arnab & Han, Jie, 2014. "Financial distress of Chinese firms: Microeconomic, macroeconomic and institutional influences," China Economic Review, Elsevier, vol. 30(C), pages 244-262.

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