| In his 50th anniversary address in honour of his seminal growth model at the 2006 AEA meeting in Boston, Robert Solow highlighted three gaps in the growth literature. First, to critically investigate the assumption that economic output is independent across countries. International output and productivity growth differentials may partly be due to neglected regional interdependencies and we must not treat regions as "isolated islands" (Mankiw, 1995; Qua, 1996). The literature on geographical economics demonstrates that agglomeration of economic activity in one region depends and influences economic activity in other regions. Hence, I explicitly model and correct for autocorrelation in the spatial dimension. Second, the majority of growth studies assume that societies employ resources economically efficient at any time (Kneller and Stevens, 2006). This assumption appears heroic in light of market imperfections and the gradual rather than instantaneous nature of adjustment processes. I develop a regional model of output and factor productivity growth that not only accounts for spatial correlations but allows also for inefficient allocation of production factors at the regional macro level. Third, North (2005) stresses the importance of well-functioning institutions in general and that of an efficient financial sector in particular to promote growth. Given the ample cross-country evidence, I hypothesize that regional macroeconomic performance depends on the quality of the financial system, too. I suggest a novel measure of financial system quality rather than the traditionally used quantity proxy. This measure is derived at the financial firm level on the basis of microeconomic efficiency and used in the regional economic growth model. I aim to make two major contributions. First, to develop a new framework that explains the puzzle of persistent growth differentials. Second, to quantify the costs and benefits of an (in-)efficient financial sector in terms of regional growth and to measure regional interdependencies. |
