Financial openness, trade openness and financial development: Evidence from sub-Saharan Africa

ABSTRACT

The study investigates the impact of financial openness (de facto) and trade openness on financial development for 26 sub-Saharan African countries over the period 1982–2016. A system Generalized Method of Moments methodological approach is utilised with 5-year averaged data. There is no evidence of the combined/joint impact of trade and financial openness towards financial development which disproves the existence of openness hypothesis by Rajan and Zingales [(2003). The great reversals: the politics of financial development in the twentieth century. Journal of Financial Economics 69(1), 5–50]. Comparatively, the region shows that it can positively benefit from trade openness to financial openness. Even though trade openness shows weak positive impact on financial development, the results are not robust, as they vary from one model to the other. Institutions show positive contribution towards financial development, but the impact is only significant towards private credit by banks. It is recommended that the institutional quality in the region be improved so that the region could fully benefit from international business, largely through investor protection.

KEYWORDS:

• Financial openness
• trade openness
• financial development
• sub-Saharan Africa

JEL CLASSIFICATION:

• F19
• G29

Disclosure statement

No potential conflict of interest was reported by the author.

Notes

1 This joint significant impact of trade openness and financial openness towards financial development has been termed ‘openness hypothesis’ by Rajan and Zingales (2003).

2 Efficiency indicator as measured by the ratio of credit allocated to private enterprises to total domestic credit.

3 Competition indicator being the ratio of deposits in non-state-owned financial institutions to the total amount of deposits in all financial institutions.

4 Size indicator is measured by the ratio of total loans in the financial system (including both banking and non-banking financial institutions) to the nominal GDP; the ratio of total loans and deposits in the financial system to nominal GDP; and ratio of total household savings to the nominal GDP.

5 1982–86, 1987–91, 1992–96, 1997–2001, 2002–2006, 2007–11 and 2012–16.

6 Angola; Botswana; Burkina Faso; Cameroon; Congo Democratic Republic; Congo Rep; Côte d’Ivoire; Ethiopia; Gabon; Gambia; Ghana; Guinea-Bissau; Kenya; Madagascar; Malawi; Mali; Mozambique; Namibia; Niger; Nigeria; Senegal; Sierra Leone; South Africa; Sudan; Togo; Uganda.

7 Democratic Accountability (0–6), Corruption (0–6), Law and Order (0–6), Bureaucracy Quality (0–6) and Government Stability (0–12) are all rescaled to 0–10 before computing the two indicators of institutions used. Rescaling from a scale of 0–6 is done by multiplying by 5/3 while multiplication by 5/6 is used for rescaling from 0 to 12.