The Gerschenkron hypothesis:

1
The Gerschenkron hypothesis

• Is the power of universal banks good or bad for
  economic development?

2
Motivation
Financial system
?
No connection at all?
Did Gerschenkron find the missing link?
Which was first hen or egg?
Economic growth
Industrialization
3
Agenda

• Motivation
• Gerschenkron hypothesis
• Universal banking
• Discussion
• Conclusion

4
Alexander Gerschenkron (1904-78)

• Economic Backwardness in Historical Perspective
  (1962)
• Britain
• Germany, France
• Russia, Denmark
• How did industrial takeoff happen in backward
  countries?
• Importance of financial system
• Universal banking in Germany

advanced
backward
5
Gerschenkron Hypothesis
Development strategy Adopt British technology
?huge capital needs!

• Economic conditions
• Scare capital
• Risky projects
• Lack of entrepreneurship

• Universal banking
• Provide finance
• Deal with risk

???
cheap corporate finance
? investment?
? economic growth?
6
Universal banks
Provide all forms of financial services

• Commercial
• Activities
• Short term credit
• Deposit taking
• Payment clearing

• Investment Activities
• Underwriting
• clearing of securities

• Relationship Banking
• Membership in firms board
• proxy voting
• holding equity stakes

wide branch network
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Superiority of universal banking

• Supply all kinds of services
• Economies of scope
• from the cradle to the grave
• Risk diversification

• Representation on firms supervisory board
• Influence on firms strategy
• Monitoring and private information

• Big banks
• Administration costs ?
• influence on industry

• asymmetric information problem v

• corporate finance costs ?

• opportunity costs of universal banks?

8
Gerschenkron Hypothesis

• Universal banks
• were essential for industrial takeoff
• promoted economic growth
• exercised influence over industry until 1900

9
Agenda

• Motivation of subject
• Gerschenkron hypothesis
• Universal banking
• Discussion
• Conclusion

10
Discussion

• Universal banks impact on industrial takeoff
• Universal banks impact on economic growth
• Bankenmacht and the costs of universal banks

• Critique
• ? more facts
• quantitative tests
• international comparison

Gerschenkron ? limited evidence ? qualitative
arguments
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1. Impact on industrial takeoff

• A Matter of Timing
• 1st wave financed by state and private banks
• 2nd wave institutional maturity
• ?impact on economic growth?

Railway building
private?universal banks
Joint-stock firms
New company law
1st industrialization
2nd industrialization
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2. Impact on economic growth

• Importance within financial system

Market share of assets of different German
financial institutions in
Source Edwards (1996), p. 431
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2. Impact on economic growth

• Importance of customers
• industrial joint-stock firms
• Metals, Utilities, Engineering, Transportation
• Net capital of industrial joint-stock firms to
  total industrial capital

Source Edwards (1996) based on Hoffman, Wachstum
? Role of universal banks in industrialization
seems to be overemphasized
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2. Impact on economic growth

• Mechanism
• Test underlying assumption
• ? Did firms depend on external finance?
• Share of internally generated funds
• Investment sensitivities

Better timing larger amount of investments
Provide external finance
Economic growth ?
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2. Impact on economic growth
1. Share of internally generated funds in total
payments into invest-ment accounts for 11 Ruhr
steel firms Source Feldenkirchen
(1991), 287
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2. Impact on economic growth

• 2. Liquidity sensitivity of investment

Firm B
Firm A
Investment profitable?
Internal Finance
Bank
Funds available?
Invest
Investment opportunity
Sensitivity high
Sensitivity low
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Bankenmacht and costs of universal banks

• undermine stability of the financial system
• Conflict of interests
• Discourage the development of active stock
  markets
• Concentration and reduced competitiveness in
  financial services
• industry cartelization due to bank involvement in
  company management
• hold up problem

18
Conclusion What did we learn?