This paper briefly reviews the contemporary literature on relationship banking. We start out with a discussion of the raison d’être of banks in the context of the financial intermediation literature. From there we discuss how relationship banking fits into the core economic services provided by banks and point at its costs and benefits. This leads to an examination of the interrelationship between the competitive environment and relationship banking as well as a discussion of the empirical evidence.

Are market-based or bank-based financial systems better at financing the expansion of industries that depend heavily on external finance, facilitating the formation of new establishments, and improving the efficiency of capital allocation across industries? We find evidence for neither the market-based nor the bank-based hypothesis. While legal system efficiency and overall financial development boost industry growth, new establishment formation, and efficient capital allocation, having a bank-based or market-based system per se does not seem to matter much.

would like to thank Ross Levine and Thorsten Beck for useful discussions. The views expressed here are the authors ’ own and not necessarily those of the World Bank or its member countries. Funding Growth in Bank-Based or Market-Based Financial Systems: Evidence from Firm Level Data We investigate whether firms ’ access to external financing to fund growth differs in marketbased and bank-based financial systems. Using firm-level data for forty countries, we compute the proportion of firms in each country which relies on external finance and examine how that proportion differs across financial systems. We find that the development of a country’s legal system predicts access to external finance, and that stock markets and the banking system affect access to external finance differently. However, we find no evidence that firms ’ access to external financing is predicted by a country’s score on any of several indices measuring the development of stock markets relative to the development of the banking system. 2 A key question in development economics is the relation between a country’s financial system and its economic development. Historians such as Gerschenkron (1962) have sought to explain a

The paper examines the relations between the architecture of an economy’s financial system – its degree of market orientation – and economic performance in the real sector. We argue that the relative effectiveness of a given architecture depends on the level of development of the financial system that reflects the supporting legal and institutional environment. Based on industry-level data across thirty-six countries, we find results consistent with this claim. While bank-based systems outperform market-based systems in the sub-sample of countries with underdeveloped financial sectors, market-based financial systems outperform bank-based systems among countries with developed financial sectors. Moreover, these relations are significant even after controlling for capital market functions, suggesting that suitable financial architecture, in and of itself, is a source of value. The paper sheds light on the on-going debate on the relative merits of market-based versus relationship finance, suggesting that recent trends in capital-marketdevelopment policies that indiscriminately prescribe market-oriented financial-systemdesign, particularly to emerging and transition economies, might be misguided.

How do firms that go public decide whether to list on a major stock exchange or locally? Using a unique data set on Israeli IPO’s in the US and Tel Aviv, we show that companies that list in the US are young and overwhelmingly high-tech oriented. We argue that high-quality innovative firms are willing to incur additional costs associated with listing in the US in order to reveal their value and distinguish themselves from firms that issue stock back home. Costs of listing in the US include first day underpricing and relinquishing corporate control.

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The research for this project was funded from a donation from the Peter Moores Foundation to the Said Business School. We are very grateful to Esra Erdem for excellent research assistance on this and related projects and to Marco Becht, Vicenc This paper examines the relation between financial, corporate and legal systems, and economic performance in different countries. It reviews international comparisons that undertake detailed analyses of individual, developed countries and studies that use large, cross-country data banks, including developing countries. While the former do not provide evidence of a clear relation between different types of systems and economic performance, the latter report a strong association of financial development with economic growth. A recent theoretical literature offers a way of reconciling these two sets of studies. It points to a relation between financial / corporate systems and types of activity with some systems favouring high risk, short-term investments and others promoting long-term, relatively low risk investments. These theories also suggest that systems may be related to stages of economic development. The paper summarizes a first

In the last two decades the European financial markets have become more market oriented. We analyze the economic and political forces that have triggered these changes as well as their likely welfare implications. We also try to assess whether this trend will continue. Based on our analysis, we conjecture that even if Europe might benefit from a continuation of the trend, in the near future political support for it is likely to become much weaker. Furthermore, without serious reforms, the trend is likely to benefit Southern Europe less than Northern Europe. *Prepared for the 2 nd ECB Central Banking Conference. We thank Franklin Allen, Philip Hartmann, Rafael Repullo and Martin Hellwig for useful comments and Fang Yu for his help in collecting the data, the Center for Research in Security Prices and the Stigler Center at the University of Chicago for financial support. In the last two decades Europe has experienced a dramatic expansion of financial markets, especially of arm’s length financial markets. But what are the underlying causes of these changes? Are these causes likely to subside in the next few years? Most importantly, will additional movements in this direction be beneficial to the economies of all the E.U. countries? These are the issues we address in this paper.

We consider a model of the financing of a small-business venture in which it is presumed that outside investors have greater expertise in project evaluation than the entrepreneur. We show that entrepreneurs and investors may restrict themselves to debt and junior equity (call-option) contracts without loss of efficiency. A “pecking order ” for new ventures is demonstrated, in which entrepreneurs prefer to be financed by junior equity rather than by debt. In addition, the model correctly predicts that large and successful venture-capital firms are likelier to hold debt stakes and makes untested predictions about the lending patterns of specialist banks.

Abstract: Are market-based or bank-based financial systems better at financing the expansion of industries that depend heavily on external finance, facilitating the formation of new firms, and improving the efficiency of capital allocation? We find evidence for neither the market-based nor the bank-based hypothesis. Focusing on underdeveloped economies or R&D-based industries or labor-intensive industries does not alter this conclusion. While effective legal protection of outside investors and overall financial development boosts new firm formation and industry growth, having a bank-based or market-based system per se does not seem to matter much.