_{1}

^{*}

The purpose of this paper is to study jointly the effects of consumer credit market and investment credit market on economic growth. We introduce consumer credit market in Schumpeterian framework. Under credit market imperfections, our model predicts a negative effect of the development of consumer credit market and a positive effect of the development of investment credit market on economic growth. We next confront the model on a panel of 27 European’s countries over the period 1995-2012. Using GMM dynamic panel data estimation, empirical results confirm our theoretical predictions. Credit composition may give explanation of the ambiguous credit-growth nexus and its heterogeneity across country.

Major theoretical literature on financial development and economic growth supports the argument that credit market development has a positive effect on economic growth by enhancing capital accumulation and technological changes. A general consensus exists among economists that a well-developed credit system spurs economic growth by improving resources allocation channeled into investment, reducing information and transaction costs and allowing risk management to finance riskier but more productive investments and innovations. However, recent empirical studies don’t support the finance-led growth hypothesis. This finding is considered as a puzzle for theories underpinning for the importance of credit market development for growth. This conflicting finding is proved by a number of recent papers.

Using GMM dynamic panel data estimation and Pooled Mean Group estimator, with two indicators of financial development, Favara (2003) [

Loayza and Rancière (2006) [

Ben Naceur and Ghazouani (2007) [

In presence market imperfections, credit market development isn’t able to lead the expected effect on growth. Credit market imperfections are mainly asymmetric information, adverse selection, high information, transaction, and monitoring costs and credit market repression in the form of borrowing constraints imposed by government interventions. Asymmetric information and high transaction costs led to interlinkage of markets which reduced the degree of competition in the economy (Braverman and Stiglitz, 1982 [

Empirical studies use generally credit to private sector as proxy of credit market development and don’t distinguish the specific effect of each credit market, consumer and investment credit markets, on economic growth. Certainly, investment and consumer credit have different effects on economic development and a specific transmission channel. Schumpeter (1911) [

This paper aims to investigate this field in the attention to provide theoretical and empirical explanations to the credit-growth puzzle. To do so, we investigate the relationship between credit markets development and eco- nomic growth in the presence of financial markets imperfections. We introduced consumer credit market in the theoretical framework of Aghion, Howitt and Mayer Foulkes (2005) [

The paper is organized as follows. In Section 2, we develop the theoretical framework of Aghion et al. (2005) [

We develop the two-period overlapping generations model of Aghion et al. (2005) [

There is one multi-purpose “general” good, produced according to the production function:

where

The general good is used for consumption and as input to product and develop the intermediate goods. Since the general good is produced under perfect competition, the price of an intermediate good will be:

If in an intermediate sector, there is a successful innovation, the productivity of this sector will equal the productivity at the world technology frontier

In each intermediate sector, there some people who are able to produce a new version of intermediate good for a unit cost equal to

An unsuccessful innovator will earn nothing and the profit of a successful innovator will be:

where

For notational convenience, “average productivity” is defined as:

Let’s assume that at equilibrium the probability of innovation will be the same for all intermediate sector

The technology gap is defined as:

Therefore the production function (1) of the “general” good can expressed as:

where où

Under perfect competition, the wage rate will be:

Let’s define R&D investment function as:

where

And his expected net payoff is given as:

For analytical convenience, it is assumed that banks operate at no cost and they don’t earn profit. Thus interest rates for lenders and borrows are the same and equal to

1) Consumer Credit Market Imperfections

To introduce credit market imperfections, we suppose that there are some dishonest agents who are able to sacrifice a proportion

Obviously, if

All consumers will apply for a loan then miss repayment if the credit is granted. So banks impose a natural credit constraint on consumers and set credit at fixed proportion

We represent the development of Consumer Credit market by the cost parameter

This means that, in one hand, banks are able to supply more credit and take more risk by increasing interest rate

2) Supply of Consumer Credit

Each consumer is endowed with one unit of labor in his first period of life. His wage rate

where

Since consumer has no endowment in his first period of life, his is obliged to apply for a credit. Thus, with no credit constraints, the optimal consumption is the solution of this system:

The optimal plan for consumers is to consume

From Equation (14), the credit size supplied at the first period equal to

Therefore, under perfect credit market, the total optimal consumption for an agent:

Now, under credit market imperfections, the credit granted,

Since

Therefore, the total consumption evolves according to:

The development level of consumer credit market

1) Investment Credit Market Imperfections

Each entrepreneur is endowed with a wage rate at the end of his first period of life. To invest

where v depends positively on the hiding cost

The development level of investment credit market is represented by parameter

2) Supply of Investment Credit

^{1}It’s supposed that

In equilibrium and under perfect credit market, an entrepreneur will choose the probability ^{1} which maxi- mize his expected net payoff (12):

The optimal R&D investment equal to:

where

But with credit market imperfections, an entrepreneur is credit rationed if

And he will innovate with probability:

Therefore, the investment evolves according to:

The development level of investment credit market

For closed economy without government, we can write the GDP per capita as:

Therefore GDP per capita is a decreasing function of the development level of consumer

To test our theoretical model, we use a second-order Taylor expansion to approximate ^{2}. Following Aghion, Howitt and Mayer Foulkes (2005) [

Our theoretical model is approximated by the following growth regression:

^{2}

where g denotes the growth rate of per-capita GDP, y the initial log of per-capita GDP, CC the log of consumer credit, CI the log of investment credit and X a set of control variables. Control variables used in our econometric investigation are GC the log of government consumption to GDP, INF inflation rate and Trade the log of the ratio of exports plus imports to GDP. Country 1 is the technology leader.

Given the specification of Equation (23), our regression is considered as a dynamic panel model. So, efficient estimators are given through the generalized method of moments. Arellano and Bover (1995) [

As a robustness check, we use data over five years instead of annual to prevent any biased estimates and to capture business cycle movements.

An important step that is relevant to the estimation of our model is to conduct M2 test, Sargan test, Hansen test and Kleibergen-Paap tests. The M2-test checks problem regarding the second-order serial autocorrelation of the error terms. The sargan test verifies that the instruments used are not correlated with the residuals. The Hansen test and the Kleibergen-Paap test provides statistics for weak instruments due to an over-identification and under-identification, respectively.

Our model is tested a balanced sample of 27 European’s countries^{3} over the period 1995-2012. Germany is considered as the leader of the 27 European’s countries in our sample. Disaggregated data on credit were extracted from Europeen Credit Research Institute Database. The WDI-World Bank database is the source for other macroeconomic variables.

The dataset shows that growth rate of GDP per capita is negatively correlated with consumer credit and positively correlated with investment credit. Macroeconomic indicators have the expected correlation sign with the economic growth: growth rate of GDP per capita is negatively correlated with government consumption as inflation and positively correlated with trade.

The results from estimating Equation (23) are reported in

Our findings give an explanation of the ambiguous credit-growth nexus in empirical literature since its uses aggregate credit to private sector as proxy of credit market development. Empirical studies must consider credit composition and study a distinctive effect of each market. In developed and developing countries, consumer credit market continues has an “explosive” trend while investment credit market show weak growth rate.

Theory provide evidence about the positive effect of investment credit on economic growth through capital accumulation, productivity growth and resource allocation but the effect of consumer credit on economic growth is ambiguous. Using a sample of 25 countries, Jappelli and Pagano (1994) [

Furthermore, our findings provide also a clarification of theheterogeneity of credit-growth nexus across country. This can be explained by the disparity of the composition of credit across country and sample.

Our results shows that a negative relationship between relative growth rate and the initial GDP per capita relative to the leader. Thus the hypothesis of conditional convergence is validated. This concept assumes that each country converges to its own long-run equilibrium path and record a high growth rate when it’s far from the path.

Regressions | Annual Data | Data over Five Years | ||
---|---|---|---|---|

One Step System GMM | Two Step System GMM | One Step System GMM | Two Step System GMM | |

(1) | (2) | (3) | (4) | |

Relative Initial Income to the Leader | −0.051^{**} | −0.048^{*} | −0.017^{**} | −0.019^{*} |

(−2.00) | (−1.81) | (−1.96) | (−1.69) | |

Consumer Credit | −0.094^{**} | −0.085^{***} | −0.026^{**} | −0.039^{***} |

(−2.29) | (−3.56) | (−2.24) | (−2.76) | |

Investment Credit | 0.102^{**} | 0.115^{**} | 0.076^{**} | 0.098^{**} |

(2.4) | (1.99) | (2.34) | (2.15) | |

Government Consumption | 0.096^{***} | 0.115^{***} | 0.031^{**} | 0.058^{**} |

(2.92) | (3.17) | (2.4) | (2.28) | |

Inflation Rate | −0.031 | −0.019^{*} | −0.001^{*} | −0.003^{**} |

(−1.65) | (−1.85) | (−1.76) | (−1.99) | |

Trade Openness | 0.078^{***} | 0.064^{**} | 0.022^{**} | 0.027 |

(2.66) | (2.02) | (2.55) | (1.58) | |

Constant | −0.528^{***} | −0.372^{**} | −0.756^{***} | −0.694^{***} |

(−2.7) | (−2.19) | (−2.82) | (−2.96) | |

Wald Test | 0.000 | 0.000 | 0.000 | 0.000 |

M2 Test | 0.425 | 0.536 | 0.730 | 0.662 |

Sargan Test | 0.439 | 0.477 | 0.610 | 0.626 |

Hansen Test | 0.278 | 0.335 | ||

Kleibergen-Paap Test | 0.002 | 0.002 | 0.006 | 0.006 |

Observations | 442 | 442 | 78 | 78 |

T-Student are reported in parentheses. ^{***}, ^{**}, and ^{*} indicate significance levels at 1, 5, and 10 percent, respectively. For the M2 test for autocorrelation, the null hypothesis is that the errors in the first-difference regression exhibit no second-order serial correlation. For Sargan test, the null hypothesis is that the instruments used are not correlated with the residuals. For the Kleibergen-Paap test of under-identification, the null hypothesis is that the instruments used are potentially weak. For Wald Test, M2 test, Sargan Test, Hansen Test and the Kleibergen-Paap test the p-values are reported.

The control variables have the expected sign and are tightly estimated. The harmful effect of inflation rate on economic growth is confirmed by a negative and significant sign in the two specifications of the GMM estimator. Government consumption has a positive and significant effect on economic growth at least at 5% level in all specification. This finding proves that public consumptions in European countries are spending mainly in investment and infrastructure which improve economic growth (Kneller, Bleaney, and Gemmell, 1999 [

Our results are robust: M2 confirms the absence of a second-order serial correlation of the residuals in the differenced regression. The Sargan test confirms no correlation between the used instruments and the residuals. Finally the Hansen and the Kleibergen-Paap test do not detect any problem of over-identifications and under- identifications restrictions and confirm the validity of variables in differences and in levels as instruments in system GMM.

This paper attempts to distinguish the specific effect of consumer and investment credit markets on economic growth. We develop the theoretical framework of Aghion et al. (2005) [

The model predicts that the development level of investment credit market affects positively convergence to the technology frontier, however, consumer credit market development affects negatively convergence. On a balanced sample of 27 European’s countries over the period 1995-2012, estimations were conducted using system GMM on annual data and data over five years. Empirical results produce evidence to support our predictions: Credit market promotes economic growth by lending to productive enterprises whereas consumer credit has a significant negative effect on real-economy performance. Our findings provide a missing piece of the credit-growth puzzle. The positive effect of investment credit market is dampening by the reverse relationship between consumer credit market and economic growth.

Banks must control the credit composition and the growth rate of the relative share of consumer credit. The increase of consumer credit induced a decline in the trade balance (Büyükkarabacak & Krause, 2009 [

Variable | Variable | Obs | Mean | Std. Dev | Min | Max |
---|---|---|---|---|---|---|

g | Annual growth of per capita real GDP | 486 | 2.377 | 3.734 | −17.545 | 14.933 |

y | income per capita (constant US $2000) | 486 | 24402 | 16630 | 1373 | 87716 |

CC | Consumer credit (% GDP) | 486 | 0.446 | 0.306 | 0.004 | 1.407 |

CI | Investment credit (% GDP) | 486 | 0.320 | 0.204 | 0.035 | 1.355 |

GC | Government consumption (% GDP) | 486 | 0.198 | 0.511 | 0.069 | 0.3 |

Trade | Total amount of exports and imports (% GDP) | 486 | 1.076 | 0.528 | 0.442 | 3.335 |

INF | Increasing rate of consumer price index over 1-year period (%) | 486 | 0.071 | 0.49 | −0.044 | 10.584 |

g | 1 | ||||||

y | −0.2641 | 1 | |||||

CC | −0.2562 | 0.7288 | 1 | ||||

CI | 0.2706 | 0.5957 | 0.7595 | 1 | |||

GC | −0.1616 | 0.2749 | 0.3673 | 0.3313 | 1 | ||

Trade | 0.0844 | 0.3152 | −0.0898 | 0.0303 | −0.0883 | 1 | |

INF | −0.0524 | −0.1251 | −0.5693 | −0.4552 | −0.1481 | −0.0088 | 1 |