Do the Financial Institutions Affect the Economic Growth of A Region Essay

Do the Financial Institutions Affect the Economic Growth of A Region of Not - Essay Example This theory was the base of Lucas's neutrality-of-money paper. The neoclassical tradition emphasizes that the demand for a product in the market and the quantity supplied determine the employment and labour cost. Milton Friedman had also constructed mechanisms with a similar view. The minor misconceptions in the Friedman's theory were corrected by Lucas by establishing a perfect balance between the "long-run" and the "short-run" non-neutrality essential for money based business cycles. The basis of both their constructs is that money is "exogenous†. They simply mean the central authority handling it can easily determine the constant supply of money. We all know the institution of banking is the above mentioned authority in the modern economy. By analysing the banking sector further, with the Lucas's theory, we will be able to determine whether the modern day money-creating systems lean towards neutrality or non-neutrality of money. Both the scholars did not consider the relatio n of bank assets and money as well as the borrower’s use of these assets. The banking sectors operate actively by investing on assets and lending the profits earned to others. We all know how influential the banking sector innovations can be on the core business management strategies. The best example is the 1985 game of mergers and acquisitions. Schumpeter said, innovation is the base of market power which will provide great temporary powerful positions, but this monopoly power will erode soon. It is true. We see the rise and fall of several banks, boosting the economy of a region considerably and disappearing like a bubble in a short time. The reason for this is, several banks spring up following one successful model, without any proper goal. They are just â€Å"lured imitators† according to Schumpeter and they are the main factors causing the short term monopoly in the market. Certain scholars like Hicks argue these quick profits created by the short term monopolies are quite important to keep the market active, inspired and running. Schumpeter’s innovation concept doesn’t fit the banking sector alone. In fact, they fit all technological and developing sectors. Innovations in finance will increase investments on the other sub sectors, creating a more technically sophisticated world. The role of speculators or middle men who act as a bridge between the financial sectors and the industries requiring investment also plays an important role in determining the actions of the financial institutions. Keynes’s words stating speculators are not mere bubbles, but they are capable of making a whole institution become bubble in the speculation whirlpool is worth consideration. According to Schumpeter strong financial institutions are the base of a countries economic growth, as it is innovative and kindles growth. But, Lucas, Levine and many other authors just considered the role of such organizations like banking have been â€Å"badl y over-stressed† in relations to economical growth of a country. There are some key questions to answer 1. How do the financial institutions emerge and why? 2. Under what circumstances do the financial institutions develop rapidly? 3. Are they really necessary and do they actually affect the money flow of a region or country? Any innovative organization wants more money to grow. They are the drivers behind these financial instit