What is Economic Efficiency

This chapter attempts to explore both a theoretical and empirical relationship between financial infrastructure and real sector of the Indian economy. It first presents an endogenous growth model where economic growth, proxied by the incremental output-capital ratio, depend on the financial infrastructure through three routes, namely, by changing the quantity of investible resources or by affecting the efficiency of utilization of a given quantity of resources or both, of which the former can either be through change in the amount of savings channeled to investment or change in the rate of savings. A time-series econometric analysis shows that the financial sector variables can explain near about 96% of the changes in real economic growth in India, which is an excellent goodness of fit. It concludes that the development of the financial infrastructure helps the Indian real sector grow both in the short-run and in the long-run. Unlike contemporary literature that prescribes diminished role, our study suggests a greater role of the govt. to ensure long-run economic growth.