Investor Protection, Optimal Incentives, and Economic Growth

Abstract

Does investor protection foster economic growth? To assess the widely held affirmative view, we introduce investor protection into a standard overlapping generations model of capital accumulation. Better investor protection implies better risk sharing. Because of entrepreneurs' risk aversion, this results in a larger demand for capital. This is the demand effect. A second effect (the supply effect) follows from general equilibrium restrictions. Better protection (i.e., higher demand) increases the interest rate and lowers the income of entrepreneurs, decreasing current savings and next period's supply of capital. The supply effect is stronger the tighter are the restrictions on capital flows. Our model thus predicts that the (positive) effect of investor protection on growth is stronger for countries with lower restrictions. Cross-country data provide support for this prediction, as does the detailed examination of the growth experiences of South Korea and India.

Cite this work

No public copy is stored for this record, so only the metadata is cited.

Stored only when both papers are in the corpus — 226 citations exist upstream.

Papers that cite the same references — the relational fallback while embeddings are still backfilling.