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Does financial development precede growth? Robinson and Lucas might be right

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  • Hyoungsoo Zang
  • Young Chul Kim

Abstract

This paper studies whether there is any causal link between financial development indicators and economic growth, using Sims-Geweke causality tests performed in the large panel data set provided by Levine, Loayza and Beck. In sharp contrast to their findings, no evidence was found of any positive unidirectional causal link from financial development indicators to economic growth. On the contrary, a substantial indication that economic growth precedes subsequent financial development was found. As argued by Robinson, financial development might primarily follow economic growth, as a result of increased demand for financial services. Although the present result does not quite imply that the role of financial development in the development process is not important, the bottom line is that a more balanced approach to studying the relationship between growth and finance needs to be adopted. As termed by Lucas, the importance of financial development in economic growth might be very badly 'over-stressed'. Robinson and Lucas might be right.

Suggested Citation

  • Hyoungsoo Zang & Young Chul Kim, 2007. "Does financial development precede growth? Robinson and Lucas might be right," Applied Economics Letters, Taylor & Francis Journals, vol. 14(1), pages 15-19.
    • Handle: RePEc:taf:apeclt:v:14:y:2007:i:1:p:15-19
    DOI: 10.1080/13504850500425469
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    References listed on IDEAS

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    1. Rajan, Raghuram G & Zingales, Luigi, 1998. "Financial Dependence and Growth," American Economic Review, American Economic Association, vol. 88(3), pages 559-586, June.
    2. Ross Levine & Norman Loayza & Thorsten Beck, 2002. "Financial Intermediation and Growth: Causality and Causes," Central Banking, Analysis, and Economic Policies Book Series, in: Leonardo Hernández & Klaus Schmidt-Hebbel & Norman Loayza (Series Editor) & Klaus Schmidt-Hebbel (Se (ed.),Banking, Financial Integration, and International Crises, edition 1, volume 3, chapter 2, pages 031-084, Central Bank of Chile.
    3. Robert G. King & Ross Levine, 1993. "Finance and Growth: Schumpeter Might Be Right," The Quarterly Journal of Economics, President and Fellows of Harvard College, vol. 108(3), pages 717-737.
    4. Magnus Blomström & Robert E. Lipsey & Mario Zejan, 1996. "Is Fixed Investment the Key to Economic Growth?," The Quarterly Journal of Economics, President and Fellows of Harvard College, vol. 111(1), pages 269-276.
    5. Emilia Mazur & W. Robert & J. Alexander, 2001. "Financial sector development and economic growth in New Zealand," Applied Economics Letters, Taylor & Francis Journals, vol. 8(8), pages 545-549.
    6. Lucas, Robert Jr., 1988. "On the mechanics of economic development," Journal of Monetary Economics, Elsevier, vol. 22(1), pages 3-42, July.
    7. Tsangyao Chang, 2002. "Financial development and economic growth in Mainland China: a note on testing demand-following or supply-leading hypothesis," Applied Economics Letters, Taylor & Francis Journals, vol. 9(13), pages 869-873.
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