The first section is this introduction. Rev Financial Econ 11:131–150. It turns out that in the EU28 and OECD countries the negative coefficient standing on the cred_by_fin variable is statistically significant in all the four regression equations while the coefficient on the squared form of this variable is statistically significant only in the case of the OECD countries (assuming a 15 % significance level). θ Our results indicate that all the research hypotheses have been positively verified. It also enables banks to borrow from and lend to different types of customers in various foreign currencies. However, regardless of these differences, all the studies indicate a positive relationship between financial sector development and economic growth as the last column in Table 1 indicates. Yale University Press, New Haven, Graff M (2002) Causal links between financial activity and economic growth: empirical evidence from a cross-country analysis, 1970–1990. The following three research hypotheses are tested: /H1/ The relationship between financial sector development (stability) and economic growth is nonlinear; /H2/ An excessively large size of the financial system does not lead to more rapid economic growth: it may even negatively affect GDP dynamics; /H3/ The inclusion of the post-crisis period gives new insights of the nature of the relationship between financial system and economic growth. Moreover, the global crisis increased dramatically the volume of nonperforming loans to such a size that hampers economic growth. n excessive lending or too high volume of nonperforming loans, has a negative impact on GDP growth. In the case of the levels, only two models are statistically significant (at least in a linear form): for the EU countries and 3-year subperiods as well as for OECD countries and 5-year time spans. It means that a positive impact is seen below a certain stage of capital market development. (2004) examine the relationship between economic growth and the development of institutions that support the financial sector. It is worth noting that definitions, which we encounter in different publications, have many common elements, complement each other rather than be mutually exclusive, but also stress different aspects of the financial system. e.g. A new element of the empirical analysis is the application of the extended econometric and economic modelling, including testing nonlinear relationships, analyzing both levels and changes of the financial variables, as well as estimating the models on the basis of a moving panel with overlapping observations. Its development pace and level depend on the individual country or regional economic conditions, including the institutional environment of the country, legal environment, political cycle etc. The Impact of Financial Development on Economic Growth in Nigeria: An ARDL Analysis Eugene Iheanacho Department of Economics, Abia State University, P.M.B. As, such savings are channelized to productive resources in the form of investment. Table 4 and Fig. An efficient and effective banking system and financial markets create a positive impact on the overall wealth of society, by enabling the advantageous flow of financial means accessibility in any given time. For the model of interest to be valid, there cannot be second-order autocorrelation (while the first order of autocorrelation is not an issue given the fact that the equation is in first differences and the first order autocorrelation of \( \Delta \varepsilon \) stems directly from the non-zero variance of ɛ, while the second order autocorrelation in \( \Delta \varepsilon \) would imply the first order autocorrelation in ɛ and, as a result, inconsistency of the GMM estimator in the used form). The financial system is capable of bringing an uniform interest rate throughout the country by which there will be balanced movement of funds between centres which will ensure availability of capital for all kinds of industries. 4. Thanks again, Thanks it is a very important information because it is not in my books & this question comes in last year paper so this information helps me, Role of financial system in economic development of a country, Relationship between financial system and economic development, Financial systems help in growth of capital market, Financial system helps in Infrastructure and Growth, Financial system helps in development of Trade, Employment Growth is boosted by financial system, Financial system helps in fiscal discipline and control of economy, Financial system’s role in Balanced regional development, Role of financial system in attracting foreign capital, Financial system’s role in Economic Integration, Role of financial system in Political stability, Financial system helps in Uniform interest rates. 2 demonstrate that both levels and changes in nonperforming loans negatively affect the growth rate of GDP. The other research that is quoted by National Bank of Poland in its report concerning the development of the financial system describes the following threshold values, which, if exceeded, cause the financial system influence on the economic growth to become negative: borrowings for the private sector in relation to the GDP—88–95 %, liquid liabilities—91 % of GDP, total local borrowings—99 % of … In the case of levels, each financial variable is also included in a squared form to account for eventual nonlinearities. Appl Econ. 1 − x However, different variables representing the financial sector yield different results in this area. Our results indicate that all the research hypotheses have been positively verified. Statistical significance can be verified based on information given in Table 3. doi:10.1006/reec.1997.0046, Hassan MK, Sanchez B, Yu J (2011) Financial development and economic growth: new evidence from panel data. The figures show the graphical representation of the impact of the financial system on economic growth. The research was conducted in 176 countries in the period from 1980 to 2013. We consider the following six variables that measure the degree of financial development and stability: (1) domestic credit provided by financial sector (% of GDP) [cred_by_fin], (2) bank nonperforming loans to total gross loans (%) [nonp_loans], (3) bank capital to assets ratio (%) [cap_asset], (4) market capitalization of listed companies (% of GDP) [mar_cap], (5) turnover ratio of stocks traded (%) [stock_turn], (6) the monetization ratio (broad money as % of GDP) [money]. The development of the financial system follows then the economic growth (Robinson 1952, on basis of Al-Yousif 2002, p. 132). Oxford University Press, Oxford, Arcand JL, Berkes E, Panizza U (2012) Too much finance?. between financial development and economic growth in Jordan between the period of 2001 and 2012. doi:10.1016/S0304-4076(98)00009-8, Calderón C, Liu L (2003) The direction of causality between financial development and economic growth. Initial GDP per capita is the natural logarithm of the GDP per capita level from the last year of the previous subperiod. With strong and robust economic development, consumers should be able to purchase premium goods and services, at a lesser cost. doi:10.1016/j.qref.2010.09.001, Ireland PN (1994) Money and growth: an alternative approach. I got my research ealy All the four functions plotted on the graph are concave and have the shape of a downward sloping parabola (ending just before the peak of the parabola). Also, can a too big financial system hamper the growth rate of GDP? Prochniak, M., Wasiak, K. The impact of the financial system on economic growth in the context of the global crisis: empirical evidence for the EU and OECD countries. The results for the third examined variable, bank capital to assets ratio, are presented in Table 5 and Fig. We also present a wide literature review on the issues regarding the stability of the financial sector and the impact of the financial sector development on economic growth. In: Robinson J (ed) The rate of interest and other essays. To analyze the impact of financial sector growth/development on economic growth in. However, when verifying this hypothesis on the basis of empirical data for real economies, some questions appear. doi:10.2307/2118406, Levine R (1997) Financial development and economic growth: views and agenda. © 2021 Springer Nature Switzerland AG. Rev Econ Stud 58:195–209. They divide the financial system into the market one, constituting the mechanism of co-creation and flow of financial means, working then to the participation of private entities (financial institutions) and the public system, which in turn constitutes the mechanism assuring co-creation and flow of financial means allowing public government to provide public goods, services as well as public benefits. 2011). The best part of the financial system is that the seller or the buyer do not meet each other and the documents are negotiated through the bank. doi:10.1111/j.1468-0297.1997.tb00043.x, Baier SL, Dwyer GP Jr, Tamura R (2004) Does opening a stock exchange increase economic growth? ( 2011 ) who used a time series data of 35 years to show that financial development had a positive and significant long-run effect on economic growth in Cameroon. The higher the level of nonperforming loans results in the higher number of problems in the whole society and lower spending and slower output growth. Only when this grows, the people will experience growth in the form of improved standard of living, namely economic development. it For example, in the case of 5-year subperiods, the consecutive observations cover the years 1994–1998, 1995–1999, 1996–2000 and so on. These sectors influence a nation's currency and interest rates. In the case of OECD countries, the impact of bank capital to assets ratio on economic growth is positive as indicated by upward sloping functions meaning that good capitalization of the banking sector is conducive to GDP growth. Fixed capital is used for investment in fixed assets, like plant and machinery. Additionally, the author also proves that the growth-promoting effects of financial intermediation are more predominant in low-income than in high-income LDCs. Fundamentally, financial sector development is about overcoming “costs” incurred in the financial system. As regards the impact of the level of nonperforming loans, the relationship is also negative as confirmed by Fig. 1 − x Google Scholar, Al-Yousif KY (2002) Financial development and economic growth. (2001) suggested a new indicator for the level of development of the banking system, based on a measure of bank microeconomic efficiency. Bencivenga and Smith (1991), Greenwood and Jovanovic (1990) or Levine (2004). The levels of the financial sector development variables as well as the other economic growth determinants are taken as the average values over the years covered by a given subperiod. The coefficient standing for the binary variable crisis is negative in all model specifications. Res Econ 51:275–301. Table 2 shows basic descriptive statistics for the six financial variables. As we can see, the contents of the individual studies are very differentiated. Financial system promotes capital market. The number of models for this variable is reduced because measurement of the stock of money has better applications for the econometric model in the case of non-euro area countries which have their own currencies. Empirically, the services provided by the financial system exert an important impact on long-term economic growth. If stock market capitalization exceeds its critical value, there is a negative impact suggesting that further increases in market capitalization do not lead to the acceleration of output. The promotion of World Trade Organization (WTO) has further improved international trade and the financial system in all its member countries. Although the development of financial system is important for economic growth, it is still underdeveloped in economically backward countries, the low-income countries (LICs). First of all, the models are generally correct from the econometric point of view. Section 2 discusses theoretical and empirical issues on the relationship between the financial sector and economic growth. The regression equations are estimated by Blundell and Bond’s GMM system estimator. Rodrik 2002, 2003, 2004), which is important from the point of view of the possibilities in explaining deepening differences in the levels of economic growth of different countries. The authors also state that financial deepening is rapid before the creation of a stock exchange and slower subsequently. To be robust in the selection of the duration of each time interval, we consider both 3- and 5-year time spans. The following research methods were used: systemic, logical and comparative analysis of scientific literature, analysis of statistical data, time series model (Autoregressive Distributed Lag (ARDL) Model). First, countries with better-developed financial systems tend to grow faster. Foreign trade is promoted due to per-shipment and post-shipment finance by commercial banks. The knowledge in this regard was broadened both from a theoretical perspective as well as from a practical point of view. J Econ Lit 35:688–726, Levine R (2004) Finance and growth: theory and evidence. Thus, the capital market, money market along with foreign exchange market and government securities market enable businessmen, industrialists as well as governments to meet their credit requirements. It includes—for each analyzed country—the average value as well as the fifth and ninety-fifth centile of distribution of a given variable in a given country. Thus, the precious foreign exchange is earned by the country because of the presence of financial system. Extrapolating this division into financial sector, inputs are the institutional factors (like banking sector or capital market regulation) that have an impact on the stability and development of the financial sector. The economic impact has already been between $160 billion (5.6 percent of GDP)and $175 billion (6.0 percent of GDP). The financial system: Accumulates savings, assuring at the same time wide access to its diversified forms. doi:10.1016/j.jdeveco.2003.03.002, Creel J, Hubert P, Labondance F (2015) Financial stability and economic performance. Hence, the conclusions in terms of causal links should be drawn on the basis of logical reasoning and theoretical structural model rather than formal econometric tests and such an approach is adopted in the current study. Niepodleglosci 162, 02-554, Warsaw, Poland, You can also search for this author in Accessed 30 June 2015, Rodrik D (2003) Growth strategies. The growth of trade in the country also induces employment opportunities. The development of any country depends on the economic growth the country achieves over a period of time. doi:10.2753/EEE0012-8775510301, Próchniak M, Witkowski B (2014) On the stability of the catching-up process among old and new EU member states. The government can also regulate the financial system through suitable legislation so that unwanted or speculative transactions could be avoided. Then in subsequent scientific research economists paid increasingly more attention to the causality between the financial system and economic growth, describing directions of these relationships as well as transmission channels. In the BMA model with five control factors (\( \bar{s} = 5 \) in the cited paper), inflation, investment, and openness rates as well as government consumption are statistically significant with p value of 0.000; population growth, fertility rate, and life expectancy are statistically significant at the 10-percent significance level; population aged 15–64 is statistically significant at the 15-percent significance level. Abstract: The International financial system has been increasingly supporting the economic growth in all economic groups of countries by offering a range of … which is causing which). It seems then, that the conclusion can be made that some results of the current financial crisis can be attributed to the consent of supervisors to too dynamic development of the financial system. Overall, the results indicate that financial system regulation has a statistically significant influence on output and productivity growth, in particular via the impact on industrial sectors relying more heavily on external sources of funding. The industries should be given suitable protection through the financial system so that their credit requirements will be met even during the difficult period. To account for autocorrelation, Arellano and Bond tests for first- and second-order autocorrelation in the first-differenced errors were performed for each regression equation. doi:10.1016/S1049-0078(02)00237-3, Friedman M, Schwartz AJ (1963) Monetary history of the United States, 1867–1960. Stock market capitalization behaves in the same way. Lucchetti et al. The economic development of a country will be rapid when more ventures are promoted which require modern technology and venture capital. Taking into account the above problems, in this study we apply the Blundell and Bond’s GMM system estimator. The respective columns in the table indicate the variables which are used to measure financial sector development, the sample of countries and time period, and the main authors’ conclusions. Most of the functions in Fig. The variables related to population (population growth, fertility rate, life expectancy, and the share of population aged 15–64), as well as the dummy variable (crisis) are exogenous. Fourthly, the results point to a positive impact of investment and openness rate on economic growth. Such an approach constitutes the value added in the literature. Bank i Kredyt 37(10):38–47, McKinnon RI (1973) Money and capital in economic development. The variable crisis is the dummy variable representing the impact of the global crisis. 2000, Uturu, Nigeria; dreugeneiheanacho@gmail.com; Tel. East Eur Econ 52:5–27. (2011). Research covers its different elements, as well as interrelations among them, and more often, especially as the result of the last crisis, the identification of risks for its stable and effective functioning, indicating, among others the occurrence of system risk. Figure 5 shows an interesting outcome because the results for the turnover ratio of stocks traded are similar to those for market capitalization of listed companies. Próchniak and Witkowski 2013a), we assume that all the macroeconomic variables, including the variables that show various components of GDP or those related to monetary and fiscal policies, are endogenously given. To make graphical results more representative, the values of the financial sector variables plotted on the horizontal axis range between the 5th and 95th centile (this range is different for various groups of countries and that is why the functions on the figures have a different length). http://www.nbp.pl/systemfinansowy/rozwoj2013.pdf. This process of reducing costs of acquiring information, enforcing contracts, and executing transactions results in the emergence of financial contracts, intermediaries, and markets. See also: Marcinkowska et al. 2015). To attain economic development, a country needs more investment and production. The following variables are used to measure the development and stability of the financial sector: domestic credit provided by financial sector, bank nonperforming loans, bank capital to assets ratio, market capitalization of listed companies, turnover ratio of stocks traded, and the monetization ratio. The above is reflected in the studies by Deidda and Fattouh (2002), Arcand et al. Although the view may not be universal, it is widely believed that financial system development boosts economic activities in an economy which leads to economic growth. The discussion of these issues is by no way closed. There are also problems with availability of statistical data. Princeton University Press, Princeton, Ghali KH (1999) Financial development and economic growth: the Tunisian experience. It is clearly seen in Fig. NBER Working Paper 10766, Levine R, Zervos S (1998) Stock markets, banks, and economic growth. Department of Economics II, Warsaw School of Economics, Al. Their results also suggest that the level of financial depth in the EU is relatively advanced and finance effects are not favorable to economic growth. World Dev 27:1069–1082. doi:10.1080/00036840500118762, Shan J, Morris AG, Sun F (2001) Financial development and economic growth: an egg-and-chicken problem? While working capital is used for the day-to-day running of business. Given the autoregressive character of the model, a proper method of estimation is necessary. One should obviously not become too excited about this but all effort should be made for the financial system to be appropriately supervised and controlled in order to assure its maximum safety and stability. The most beneficial effects from developing capital markets can be achieved by those countries that record a relatively low level of stock market capitalization. In this study, we analyze the variables that can be rather treated as outputs of the financial sector. J Asian Econ 9:503–517. It is through the financial system, that the government can create a congenial business atmosphere so that neither too much of inflation nor depression is experienced. When rich countries today are compared to their own history, there is a vast difference in the standards of living (Weil, 2013). This result is also in line with the first analyzed variable, i.e. Baier et al. In the early neoclassical growth literature, financial services played a passive role of merely channeling household savings to investors. The economic impact is also found to be non-negligible. The presence of financial system will generate more employment opportunities in the country. GDP growth rate and the changes of the financial sector development variables are calculated as the difference between the last year of the given subperiod and the last year of the previous subperiod (in the case of GDP growth rate the values were further divided by the number of years to represent annual growth rates). According to the authors, the efficiency of investment (not its volume) is the main channel of transmission from financial development to growth. doi:10.1016/0304-3878(96)00006-5, Odedokun MO (1999) How the size of the monetary sector affects economic growth: econometric evidence from industrial and developing countries. Theory and empirical evidence both deny the fact that, allegedly, the financial system only—and in the automatic way only—reacted to the needs of economy. The impact of the financial system on economic growth in the context of the global crisis: empirical evidence for the EU and OECD countries Mariusz Prochniak1 • Katarzyna Wasiak2 Published online: 30 March 2016 The Author(s) 2016. Robust approach. Source: Own calculations, The impact of broad money (% of GDP) on economic growth. The economic development of any country is dependent on its financial system which includes its banks, stock markets, insurance sector, pension funds and a government-run central bank with authority. The financial system is obviously also shaped by the development of non-financial sector. We adopt the definition offered by Pietrzak et al. So, it cannot be excluded that financial development reveals a bilateral causal relationship with economic growth or even a reverse causal link.