We endogenize the R&D financial structure and investigate the effects of tax policy (dividend, corporate, and bond income taxes). Agency costs exist between the supply of and demand for funding, which enable the financial market to reshuffle loanable funds out of less productive firms toward others with greater productivity. We show that the financial structure-growth relationship is not monotonic, depending on the relative productivity between the existing and new firms and the allocation of loanable funds between them. The allocation of loanable funds, rather than their market amount, plays a key role in determining the effects of policy.
