Credit market deregulation and economic growth: Further insights using a marginal integration approach

This study provides further insights to the debate of more or less financial regulation, especially after the financial crisis of 2007–08 and skepticism that has been raised. It uses an extensive dataset covering 66 countries for the period 2000–13 to test for the isolated effects of credit market liberalization on economic growth. During that period, most of the developed countries had already reached a high degree of credit liberalization. We apply marginal integration to a Partially Additive Linear Model which allows for a separate treatment of individual components. Consequently, we can uncover the individual shapes of the relationship pointing to linear or nonlinear links between regulation and GDP growth. We establish that credit deregulation exhibits threshold effects as well as heterogeneous effects among groups of countries. Initial credit reforms have a positive impact on growth. Developed countries reach a threshold value, which they manage to overcome and move again towards positive growth effects. In developing countries, growth is negatively affected after a threshold, potentially triggered by institutional voids and weaknesses. Even more pronounced is the negative effect in emerging economies; obviously due to particular economic conditions which differentiates them from the rest of the countries. As such, credit market deregulation is not the way to go to stimulate growth in this region under the prevailing conditions. Therefore, credit market deregulation is not a panacea: countries should liberalize their financial markets at the same time they proceed to other reforms and strengthen their institutions to reap beneficial growth effects.