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PKSG Working Paper Series

Working Paper PKWP1705

The effects of financialisation and financial development on investment: evidence from firm-level data in Europe

June 2017

Daniele Tori, Özlem Onaran

In this paper we estimate the effects of financialization on physical investment in selected western European countries using panel data based on the balance-sheets of publicly listed non-financial companies (NFCs) supplied by Worldscope for the period 1995-2015. We find robust evidence of an adverse effect of both financial payments (interests and dividends) and financial incomes on investment in fixed assets by the NFCs. This finding is robust for both the pool of all Western European firms and single country estimations. The negative impacts of financial incomes are non-linear with respect to the companies' size: financial incomes crowd-out investment in large companies, and have a positive effect on the investment of only small, relatively more credit-constrained companies. Furthermore, we find that a higher degree of financial development is associated with a stronger negative effect of financial incomes on companies' investment. This finding challenges the common wisdom on 'finance-growth nexus'. Our findings support the 'financialization thesis' that the increasing orientation of the non-financial sector towards financial activities is ultimately leading to lower physical investment, hence to stagnant or fragile growth, as well as long term stagnation in productivity.

Keywords: financialization, financial development, firm-level data, Europe

JEL classification: C23: Single Equation Models; Single Variables: Panel Data Models; Spatio-temporal Models D22: Firm Behavior: Empirical Analysis G31: Capital Budgeting; Fixed Investment and Inventory Studies; Capacity

Download: Working Paper PKWP1705