Financiers versus Engineers: Should the Financial Sector be Taxed or Subsidized?

I study the allocation of human capital in an economy with production externalities, financial constraints, and career choices. Agents choose to become entrepreneurs, workers, or financiers. Entrepreneurship has positive externalities but requires the services of financiers. In the second best solution, the financial sector should be taxed in exactly the same way as the nonfinancial sector When direct subsidies to investment and scientific education are not feasible, subsidizing the financial sector increases growth if externalities are driven by physical capital as in Paul M. Romer (1986), and decreases growth if externalities are driven by human capital as in Robert E. Lucas, Jr. (1988). (JEL E44, H21, H25, L26, O41)