Inflation,FinancialDevelopmentandGrowth-NYUStern.pdfVIP

Economic Theory, Dynamics and Markets: Essays in Honor of Ryuzo Sato Edited by T. Negishi, R. Ramachandran and K. Mino Kluwer, 2001, forthcoming. November 3, 2000 Inflation, Financial Development and Growth Peter L. Rousseau Vanderbilt University And Paul Wachtel Stern School of Business, New York University The last decade saw an explosion in research interest on economic growth. In particular, there have been a large number of thorough empirical investigations of the differences in growth rates among countries over long periods of time. These studies tend to emphasize particular aspects or causes of the growth process. Among the important correlates of economic growth that have been studied are inflation and the extent of financial sector development. In this paper we examine the interaction between the growth-inflation and growth-finance relationships. It is generally thought that there is a negative relationship between inflation and long-term economic growth. However, the willingness of observers to express this hypothesis seems much stronger than the empirical evidence for it. Early empirical studies provide very mixed results with a variety of data sets and approaches that attempt to provide empirical substantiation for the hypothesis (see Haslag (1997)). It is difficult to pin down a negative long-term relationship because in the short-run a Philips curve phenomenon can lead to a positive relationship between growth and inflation. Several influential studies in the earl