the role of external finance for faster growth in countries with better developed financial systems. These papers focus on only a small set of obstacles that firms confront without discussing the motivation for choosing that set.

It is essential to explore the relationship between the business environment and firm growth not only across countries but across regions and by firm characteristics within countries—by firm size, age, sector, and ownership type. In examining this relationship, the literature has focused largely on the effect of difficulties in access to finance by firm type, particularly firm size. Generally the finding is that smaller firms are more constrained (Love and Mylenko 2003; IDB 2007). Beck, DemirgüçKunt, and Maksimovic (2005), using the World Business Environment Survey data set, include measures of corruption and property rights. Based on firms’ perceptions of potential constraints, they also find patterns across countries, with small firms benefiting the most from greater financial and institutional development.

Aterido, Hallward-Driemeier, and Pagés (2007, 2009, 2010) analyze the effect of several aspects of the business environment—access to finance, corruption, and regulations—on the growth of firms. Their findings show that the business environment affects small, medium-size, and large firms differently. The reason is that small firms are exposed to a different set of constraints than large firms are. Access to electricity, for example, has heterogeneous effects: small and medium-size firms are often affected by power cuts, while large and micro firms tend not to be. The main reason is that micro firms use less energy-intensive tools and large firms are more likely to secure their own energy supply (Gelb and others 2007). Thus infrastructure such as the electricity grid affects the growth rate of small and medium-size firms directly, but has only an indirect effect on the growth rate of micro and large firms. Micro firms are much more credit constrained and must rely less on external funds to finance investment. Improving access to finance might boost the entry rate and the growth of small firms, perhaps at the expense of larger incumbents.

According to Dollar, Hallward-Driemeier, and Mengistae (2005), improving the business environment is an important complement to trade policies aimed at increasing international trade integration. Factors such as fast customs clearance times, good infrastructure, and availability of financial services have a significant impact on the probability of a firm’s exporting and receiving foreign investment. Freund and Rocha (2010) provide more evidence of the link between the business environment and international trade. Using data from Africa, they find that even though poor trade infrastructure is one of the main obstacles to trade, most of the burden is due to heavy “red tape,” bureaucratic customs practices that increase the time and cost of trade.

Gelb and others (2007) use subjective data on the business environment from 26 African countries to show that perceived constraints are not always independent of scale. Complaints about access to finance and land are more common among small firms, while complaints about infrastructure and corruption are more evenly distributed. They also find that a country’s level of development strongly determines which constraints are present (country fixed effects are more important than within4