Deepening European Financial Integration: Theoretical Considerations and Empirical Evaluation of Growth and Employment Benefits

This paper analyses some long-run macroeconomic effects of European financial integration. In particular we focus on the further reduction and abolition of cross-border barriers impeding the entry into the markets of banking and insurance products. We follow a theoretical as well as an empirical approach to make predictions about how deeper integration will affect growth and unemployment rates. In our growth model we show that enhanced foreign financial market penetration should increase the overall growth rate unambiguously. The empirical analysis includes a wide set of indicators, each of them capturing different aspects of financial development and financial market integration. On the basis of the estimations a weak growth impact of foreign market penetration can be identified. Hence, deeper financial integration generates a growth bonus. But the long-run growth effect is conditional on differences in institutional characteristics captured by country-specific effects. The analysis is supplemented by an analysis of the potential employment benefits of deeper financial integration. We show that the growth bonus can be transformed into an employment bonus, but also not without considering substantial country-specific differences.