ABSTRACT
In stressing the importance of financial intermediation in the development o f the LDCs, neither the approach of financial deepening nor that of real interest rates has clarified the relationship between financial intermediation and real development. This paper shows—within a two-sector model, but extendable to the n-sector case—that high (equilibrium) real interest rates are growth-promoting, even if total real savings is interest insensitive (a controversial empirical question), because they bring about an improvement in the quality of the capital stock in a well-defined sense. The analysis also has implications for the theories of inflation and income distribution in the LDCs.
