Dynamic effects of financial development on economic activity

ABSTRACT

In this article, we provide evidence of the dynamic effects of financial development on a group of key macroeconomic variables, namely, output, consumption, investment, inflation, money, the interest rate and the exchange rate. As the measure of financial development we use a new broad measure of financial development instead of the narrow measures usually employed in the related literature. Another novelty is that we estimate the dynamic effects of financial development on economic activity in the context of a panel vector autoregressive model, comprising 36 countries observed in the period 1983–2019. Our results suggest that financial development has a positive impact on output, investment, and consumption. The results reported in this article also support the proposition that the benefits from financial development are larger in economies where the financial system is market-based. These results survive a battery of robustness checks.

KEYWORDS:

• Bank/market-based financial systems
• consumption
• financial development
• investment
• PVAR

JEL CLASSIFICATION:

• E20
• E44
• G20

Disclosure statement

No potential conflict of interest was reported by the author(s).

Data availability statement

The data that support the findings of this study are available from the corresponding author (PB) upon reasonable request.

Additional information

Funding

This work was supported by the Portuguese Foundation for Science and Technology (FCT) under the fellowship SFRH/BD/111038/2015 (J.D.), with national funds from MCTES and european funds from the European Social Fund, and has been funded by national funds through FCT — Fundação para a Ciência e a Tecnologia, I.P., Project UIDB/05037/2020.