Financial Deepening and Economic Growth in Gulf Cooperation Council Countries

Abstract

The goal of this study is to investigate the causal relationship between financial development and economic growth in Gulf Cooperation Council (GCC) countries, i.e. Bahrain, Oman, Kuwait, Qatar, United Arab Emirates and Saudi Arabia, over the period 1980–2012. We employ panel unit root tests, and Error Correction Model and cointegration techniques to detect long-run and short-run causalities between the variables used in our study. The overall empirical results reveal that the financial sector development contributes significantly to economic growth in the GCC countries. Our results could be of great interest for policymakers since the financial sector could play a crucial role in lowering the dependency of the governments to oil revenues and could contribute significantly to spur economic growth.

Key Words:

• finance–growth
• GCC
• PVECM

Acknowledgment

The authors are grateful to two anonymous referees for their valuable and helpful comments that greatly improved the paper. Any remaining errors are ours

Notes

¹ The positive relationship between financial sector developments and economic growth is known in literature as the ‘supply leading hypothesis’.

² We do not use M2 as a proxy for financial sector development in GCC countries because the M2-to-GDP ratio in developing countries does not automatically reveal a greater financial performance as money is used as a store of value in the absence of other more attractive alternatives (see Khan & Senhadji, 2002).

³ Goldsmith (1969) was the first to empirically show the positive correlation between financial development and GDP per capita (Beck, 2008, p. 3).

⁴ Unfortunately, this is the longest available data for GCC countries.

⁵ Kao (1999) suggests a new framework that uses residual-based DF and ADF tests. Unlike Pedroni's procedure, Kao's test takes into account the initial regression with individual intercepts (fixed effects) only. Otherwise, there is no deterministic trend and no homogeneous regression coefficients in the test's steps.