Economic growth will occur if property rights make it worthwhile to undertak socially productive activity Douglass C North and Robert Paul Thomas- 1. Introduction Recently, a large number of papers have established that financial development fosters growth and that financial development is related to a countrys institutional characteristics, including a strong legal framework. This law and finance literature has found that firms in countries with well-developed financial markets and a strong legal ramework find it easier to attract (long-term) financing for their investment needs (la Porta et al. 1998, Demirguc-Kunt and Maksimovic 1998, Rajan and Zingales, 1998) Related work has established that debt structures of firms differ across institutional frameworks(Rajan and Zingales 1995, Demirguc-Kunt and Maksimovic, 1999, Booth et al. 2000). In particular, it has been established that firms in developing countries have a smaller fraction of total debt in the form of long-term debt Thus far, however, the literature has not paid much attention to differences in firms' asset structure across countries. But these differences are large as well. Demirguc- Kunt and Maksimovic (1999) find, for example, that firms in developing countries have higher proportions of fixed assets to total assets and less intangible assets. This surprising as the literature on optimal capital structures(Harris and Raviv, 1991)would suggest that a lack of long-term financing would make it more difficult to finance fixed assets. So far, to our knowledge, no explanation of these findings has been provided How come that firms in developing countries have more fixed assets while they find it more difficult to get long-term external financing? Is it that they need more nominal collateral to attract the same amount of financing? Or are the returns to fixed assets more secure from the firm's point of view than the returns on intangible assets? In this paper, we explore the role on property rights in influencing the availability of external financing and the allocation of investable resources. Using a simple framework, we investigate the effects of legal framework on the amount of financing, The Rise of the Western World: A New Economic History( Cambridge, MA: Cambridge University Press, 1973),82 “Economic growth will occur if property rights make it worthwhile to undertake socially productive activity” Douglass C. North and Robert Paul Thomas2 1. Introduction Recently, a large number of papers have established that financial development fosters growth and that financial development is related to a country’s institutional characteristics, including a strong legal framework. This law and finance literature has found that firms in countries with well-developed financial markets and a strong legal framework find it easier to attract (long-term) financing for their investment needs (La Porta et al. 1998, Demirgüç-Kunt and Maksimovic 1998, Rajan and Zingales, 1998). Related work has established that debt structures of firms differ across institutional frameworks (Rajan and Zingales 1995, Demirgüç-Kunt and Maksimovic, 1999, Booth et al. 2000). In particular, it has been established that firms in developing countries have a smaller fraction of total debt in the form of long-term debt. Thus far, however, the literature has not paid much attention to differences in firms’ asset structure across countries. But these differences are large as well. Demirgüç- Kunt and Maksimovic (1999) find, for example, that firms in developing countries have higher proportions of fixed assets to total assets and less intangible assets. This is surprising as the literature on optimal capital structures (Harris and Raviv, 1991) would suggest that a lack of long-term financing would make it more difficult to finance fixed assets. So far, to our knowledge, no explanation of these findings has been provided. How come that firms in developing countries have more fixed assets while they find it more difficult to get long-term external financing? Is it that they need more nominal collateral to attract the same amount of financing? Or are the returns to fixed assets more secure from the firm’s point of view than the returns on intangible assets? In this paper, we explore the role on property rights in influencing the availability of external financing and the allocation of investable resources. Using a simple framework, we investigate the effects of legal framework on the amount of financing, 2 The Rise of the Western World: A New Economic History (Cambridge, MA: Cambridge University Press, 1973), 8