An Evaluation of Financial Institutions: Impact on Consumption and Investment Using Panel Data and the Theory of Risk-Bearing

Robert M. Townsend
Mauro Alem
Publication Type: 
Working Papers
Publication Article File: 
Publication Year: 
2012

The theory of the optimal allocation of risk and some unusual panel data on financial transactions are used to assess the impact of the major formal and informal financial institutions of an emerging market economy. We link financial institution assessment to the actual impact on clients, rather than ratios and non-performing loans. We derive both consumption and investment equations from a common core theory with both risk and productive activities. The empirical specification follows closely from this theory and allows both OLS and IV estimation. We thus quantify the consumption and investment smoothing impact of financial institutions on households including those running farms and small businesses. A government development bank (BAAC) and commercial banks are shown to be particularly helpful in smoothing consumption and investment, consistent with the operating system of at least the former. Surprisingly, the informal sector seems most helpful in investment, not consumption. Other institutions seem ineffective by these metrics.

Region: 
East Asia and the Pacific
Country: 
Thailand
Topic: 
Financial Institutions
Topic: 
Informal Economy
Topic: 
Econometrics and Statistical Methods
Topic: 
Risk
Topic: 
Consumption
Topic: 
Enterprise