Information Frictions in Financial Flows
Authors:   , Wache Benjamin 
Published: February 2024

This thesis examines the role of information frictions in capital allocation and their subsequent impact on economic activity. It addresses two questions: (i) How does information impact capital allocation, and (ii) What influence does this have on real economic outcomes like production and employment? Chapters two and three of the thesis deal primarily with the first question, and demonstrate that information frictions are a key determinant of capital flows. Chapter four considers the second question, and demonstrates that higher local supply of capital, due to variation in information frictions, positively affects regional economic performance.

The dissertation finds significant roles for information frictions in capital flows and regional economic growth. Utilizing a dataset from 1865 to 2019 and modern statistical tools, it analyzes information's effects on economic dynamics, emphasizing the importance of considering information in policy-making and the need for ICT and social infrastructure investments.

The second chapter, "Information Flows and Global Capital Allocation: Evidence from the Telegraph," examines the influence of information frictions on international capital flow. Using the 19th-century advent of international telegraph cables between the UK and 33 countries as a source of variation, the chapter reveals that the telegraph led to a significant increase in the bilateral export of financial capital by the UK. A geographic instrument, the ruggedness of the seabed, is used for exogenous variation. The introduction of a new telegraph cable increased bilateral capital flows to private recipients by 100% to 200%, indicating the significant influence of information on capital flows.

The third chapter, "Social Connectedness and the Geography of Venture Capital Flows," explores the determinants of venture capital investments in the American economy from 1960 to 2019. It argues that social connectedness plays a central role in determining the flow of venture capital. The analysis shows that social connectedness is a significant determinant of venture capital flows, and that an increase of 1% in them is associated with an increase of about 0.5% in venture capital investments, suggesting that venture capital investments are highly determined by social networks.

The fourth and final chapter, "The Impact of Venture Capital on Economic Growth," co-authored with Steven Poelhekke, delves into the influence of venture capital investments on regional economies. The study uses "social access to venture capital," a novel instrument that measures a county's exposure to the venture capital cycle, to isolate the impact of venture capital. The results show a strong and positive impact of venture capital investments on local economic growth.

Overall, this dissertation confirms the role of information frictions in capital allocation, emphasizing that they may play an even larger role than expected, compared to tangible aspects of the economy. It demonstrates that social connectedness has a significant impact on the flow of venture capital and thus should be considered in policy-making and future research.