Essays on public economics and banking

This dissertation presents two lines of research on public finance and banking respectively. The research on public finance explores the source of China’s state capacity, including fiscal capacity and the bureaucracy, and whether such state capacity promotes economic development. The research on banking discusses the discrimination in China’s bank loan markets, and the role of political connections and policy uncertainty in affecting bank risk-taking in the United States. My first chapter is about the state capacity in China. We offer a comprehensive study on the causal effects of state capacity in explaining China's spectacular economic growth, using rich historical variation and various outcomes in economic performance, education, health care, finance, and social unrest. Our estimates indicate that fiscal capacity has significantly positive impacts. However, a large size of bureaucracy plays a much weaker role, and it cannot reduce the incidence of protests, suggesting the existence of overstaffing in the public sector. The second chapter analyzes costly discrimination related to physical attractiveness and gender in bank loan markets using a market structure-based method. The rationale is that a concentrated market provides more space for loan officers to discriminate against a certain group of borrowers. We find that loan officers prefer good-looking people and males in relatively risky commercial/industrial loan markets. On the other hand, females and especially young good-looking females have an advantage in mortgage loan markets. We interpret these different patterns of favoritism as a result of differential risk levels associated with the two types of loans. The third chapter studies how political connections and their interaction with economic policy uncertainty affect banks' risk-taking. Our hypothesis is that policy uncertainty increases the option value of waiting but political connections can reduce such option value. We find when policy uncertainty is low, politically connected banks have a weaker tendency to take on more risk than those without political connections and enjoy the quiet life. However, when policy uncertainty is high, politically connected banks have much larger amounts of loans, but smaller amounts of loss provision than those without political connections.