Comparative Advantage, Demand for External Finance, and Financial Development, joint with Quy-Toan Do Abstract: The differences in the levels of financial development between advanced and developing countries are large and persistent. Theoretical and empirical literature has argued that these differences are a source of comparative advantage and could therefore shape trade patterns. This paper points out the reverse link: financial development is itself influenced by comparative advantage. We illustrate this idea using a model in which a country’s financial development is an equilibrium outcome of the economy’s productive structure: financial systems are more developed in countries with large financially intensive sectors. After trade opening demand for external finance, and therefore financial development, are higher in a country that specializes in financially intensive goods. By contrast, financial development is lower in countries that primarily export goods which don’t rely on external finance. We demonstrate this effect empirically using data on financial development and export patterns in a sample of 96 countries over the period 1970-99. Using trade data, we construct a summary measure of a country’s external finance need of exports, and relate it to the level of financial development. In order to overcome the simultaneity problem, we adopt a strategy in the spirit of Frankel and Romer (1999). We exploit sector-level bilateral trade data to construct, for each country, a predicted value of external finance need of exports based on the estimated effect of geography variables on trade volumes across sectors. Our results indicate that financial development is an equilibrium outcome that depends strongly on a country’s trade pattern. JEL Classification Codes: F10, G20, O16, O19 Keywords: trade patterns, demand for external finance, financial development, gravity model.