An Exploration of the Finance -Growth Nexus: Long Run and Causality Evidences from Selected Countries of SAARC Region

Abstract

The debate on direction of Granger causality between financial development and real sector growth has been growing issue since 1980’s. Researchers are fanatical to empirically discern long run and casual relationship for devising economic policies. This study empirically investigated the finance growth nexus and Causality in the selected countries of SAARC region (Pakistan, India, Nepal and Sri Lanka) using the yearly data set from 1975-2009. The study employed the variables of banking sector as a proxy to financial development. Results of Maddala & Wu and Kao co-integration tests confirm that long run relationship exists between the financial and real sector variables. Result of Causality shows that it runs from real sector growth to financial sector development through proxy of Ratio of Liquid Liabilities to GDP per capita, Ratio of Private Credit by Deposit Money Banks and Financial Institutions to GDP per capita, Ratio of Bank deposits to GDP per capita and Ratio of commercial bank assets to sum of commercial banks plus central bank assets in the SAARC region.

Keywords:Financial Sector Development, Real Sector Growth, Panel Co-Integration, VECM, Granger Causality, SAARC region