Staff Report 392

Firm Dynamics and Financial Development

Cristina Arellano | Assistant Director and Monetary Advisor
Yan Bai
Jing Zhang | Federal Reserve Bank of Chicago

Revised July 20, 2009

This paper studies the impact of cross-country variation in financial market development on firms’ financing choices and growth rates using comprehensive firm-level datasets. We document that in less financially developed economies, small firms grow faster and have lower debt to asset ratios than large firms. We then develop a quantitative model where financial frictions drive firm growth and debt financing through the availability of credit and default risk. We parameterize the model to the firms’ financial structure in the data and show that financial restrictions can account for the majority of the difference in growth rates between firms of different sizes across countries.

Published In: Journal of Monetary Economics (Vol. 59, No. 6, October 2012, pp. 533-549)

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