Financial Development-Economic Growth Nexus: Theoretical Underpinnings, Empirical Evidence, and Critical Reflections

The discussion in this chapter rekindles the century-old debate on the association between Financial Development (FD) and Economic Growth (EG). This chapter draws from extant literature to discuss the nexus between FD and EG and provides insights on underlying theories, empirical evidence, methodologies adopted in prior studies that investigate and explain the relationship. The chapter also contextualizes the nexus in terms of the Islamic Banking Sector and provides a comparison of the contextualization in the Conventional Banking System. Critical reflections on the extant understandings of FD and EG relationship adds to the vigor of the debate presented in this chapter. Debates on FD–EG nexus have prevailed over several decades. Numerous theoretical and empirical writings postulate and provide evidence that FD promotes EG (Arestis et al., 2001). On contrary, other studies indicate insignificant (Ram, 1999) or no association between FD and EG. Yet some other studies reveal that EG promotes FD (Stolbov, 2013). This chapter presents a concise overview of the theories and empirical evidence that have emerged in extant literature around the FD-EG nexus. The chapter also argues that conventional theories on FD–EG nexus need to be expanded to include elements of social and environmental responsibilities in development and growth models. Concepts such as sustainable development and corporate social responsibility (CSR) have emerged prominent in growth and development models and popularized by United Nations conferences and international agreements on sustainable development. Extant CSR literature has revived the FD–EG debate, both in theoretical and empirical terms, and highlighted the significance of CSR and sustainable development for countries across the globe.