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Financial developemnt and economic growth in ten asian countries

UNIVERSITY OF ECONOMICS
HO CHI MINH CITY
VIETNAM

INSTITUTE OF SOCIAL STUDIES
THE HAGUE
THE NETHERLANDS

VIETNAM - NETHERLANDS
PROGRAMME FOR M.A IN DEVELOPMENT ECONOMICS

FINANCIAL DEVELOPEMNT AND ECONOMIC
GROWTH IN TEN ASIAN COUNTRIES

BY

DUONG DINH TRIEU

MASTER OF ARTS IN DEVELOPMENT ECONOMICS

HO CHI MINH CITY, DECEMBER 2013



UNIVERSITY OF ECONOMICS
HO CHI MINH CITY
VIETNAM

INSTITUTE OF SOCIAL STUDIES
THE HAGUE
THE NETHERLANDS

VIETNAM - NETHERLANDS
PROGRAMME FOR M.A IN DEVELOPMENT ECONOMICS

FINANCIAL DEVELOPEMNT AND ECONOMIC
GROWTH IN TEN ASIAN COUNTRIES
A thesis submitted in partial fulfilment of the requirements for the degree of
MASTER OF ARTS IN DEVELOPMENT ECONOMICS

By

DUONG DINH TRIEU

Academic Supervisor:
TRUONG DANG THUY

HO CHI MINH CITY, DECEMBER 2013


TABLE OF CONTENTS
ABSTRACT ..................................................................................................................... 1
CHAPTER 1: INTRODUCTION .................................................................................... 2
1.1

Problem statement .............................................................................................. 2

1.2

Research questions ............................................................................................. 6

1.3



Objectives of the study ....................................................................................... 6

1.4

Scope of the research .......................................................................................... 7

1.5

Structure of the thesis ......................................................................................... 7

CHAPTER 2: THEORETICAL AND EMPIRICAL BACKGROUND ......................... 9
2.1

Theoretical background ...................................................................................... 9

2.2

Empirical review............................................................................................... 14

CHAPTER 3: RESEARCH METHODOLOGY ........................................................... 19
3.1

The conceptual framework ............................................................................... 19

3.2

Variables ........................................................................................................... 20

3.2.1

Dependent variable .................................................................................... 20

3.2.2

Explanatory variables ................................................................................ 21

3.3

Econometric model ........................................................................................... 23

3.4

Data and Descriptive Statistics ......................................................................... 26

3.5

Correlation among independent variables ........................................................ 27

CHAPTER 4: RESEACH FINDINGS ....................................................................... 29
4.1

Test for Multicollinearity.................................................................................. 39

4.2

Testing for Heteroskedasticity .......................................................................... 40

4.3

Testing for Autocorrelation .............................................................................. 41

4.4

Panel Unit Root Test......................................................................................... 42

CHAPTER 5: CONCLUDING OBSERVATION AND POLICY IMPLICATION .... 44
5.1

Main findings and policy implications ............................................................. 44

5.2

Limitation of the research and recommendation for further studies ................ 48


REFERENCES ............................................................................................................... 50
APPENDIX 1: List of Economies and Number of Observations .................................. 54
APPENDIX 2: Definition of Variables and Their Data Sources ................................... 55


LIST OF FIGURES
Figure 1: GDP growth rate and Inflation rate in Vietnam (1996-2012)
Figure 2: Stock market capitalization (% GDP) and Inflation rate in Vietnam (19962012)

3
4

Figure 3: Asian Countries Recovery after the crisis in 1997

5

Figure 4: Relation between Financial Development and Economic Growth

9


LIST OF TABLES
Table 1: Descriptive Statistic on the sample observations

26

Table 2: Correlation Matrix

28

Table 3: Regression results: Fixed Effects Model and Random Effects Model
Table 4: Hausman test result between Fixed Effects Model and Random

30-31
33

Effects Model
Table 5: Regression result of the optimal Fixed Effects model

34-35

Table 6: Collinearity Diagnostics

39-40

Table 7: Result of Test for autocorrelation
Table 8: Panel Unit Root Test Results

41
42-43


ABBREVIATIONS
INF

:

Inflation Rate

IMF

:

International Monetary Funds

WB

:

World Bank

WDI

:

World Development Indicators

INT

:

Interest Rate

GDP

:

Gross Domestic Products

OLS

:

Ordinary least square

FEM

:

Fixed Effects Model

REM

:

Random Effects Model

X

:

Import

M

:

Export


ABSTRACT
Financial-sector-derived economic crises happened recently in Asia area and in
Vietnam create a question about the growth-promoting role of financial system against
the economy. After reviewing the theory of growth-finance nexus and many empirical
studies about the link between financial development and economic growth, this paper
is implemented to examine whether financial development really promotes economic
growth in Asia including Vietnam and its nine neighboring nations. Collecting data of
ten Asian countries over period from 1980 to 2012 from IMF and World Bank and
using econometric analysis method are the tools used in this report. Due to the
inadequate data of Vietnam before 1986 and of some other developing countries, the
analyzed data is unbalance panel form. GDP per capita growth is proxy for economic
growth which is dependent variable in the regression model. The indicators for
financial development which is the main studied object in this paper include the ratio
of private credit to GDP, the efficiency of financial institutions measured the spread
between saving rate and lending rate, capital inflows as share of GDP and the ratio of
total market value of all listed companies to GDP. Besides, the regression model is
added some control independent variables consist of the inflation rate measures the less
stability of economies, and the two variables whose values measured in percentage
against GDP: ratio of foreign trade to GDP and expenditure of Governments divided by
GDP. The regression result of Fixed Effects model affirms all four indicators of
financial development promote economic growth. The private credit is significantly
necessary for growth. The relationship between private credit ratio and economic
growth is quadratic. The increase in stock market capitalization leads to increase in
investment in turn fosters growth. While financial openness promotes economic growth
significantly. Lastly, the narrow of spread between lending and saving rates lowers the
cost of investment so investment increases, in turn economic growth is accelerated.

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CHAPTER 1: INTRODUCTION
1.1 Problem statement
Vietnamese economy has been continuously developing at a high rate since the
beginning of 90s. One of many reasons may be the economy opening policy of
Vietnam Government including the policy of liberalizing the financial system
gradually. The expanding of Vietnamese financial system with the evidence of the
increasing in quantity of domestic joint stock banks and the appearance of many
foreign commercial banks, financial companies and insurance institutions. They help
economic components especially private enterprises and households to access easily to
financial resources. Besides, the Vietnamese securities market which has been
established in 2000 plays a more and more important role in the economy. It operates
as the second fund mobilization channel of enterprises. The domestic stock market, one
component of securities market, has been rapidly developing in term of the market
value of listed companies. The ratio of Vietnamese market capitalization of listed
companies to GDP increased from 0.87% in 2005 to 27.52% in 2007 (WDI). However,
the volatility of Vietnam economy recently such as the high domestic inflation rate
from 2007 and the crash of the stock market in 2008 have restrained the growth rate.
Some causes are raised to explain the volatility, they include the rapidly over
expanding of Vietnamese banking system and the easy credit provision of domestic
commercial banks. The average GDP growth rate of Vietnam is 7.42% in the low
inflation rate period of 4.74% from 1996 to 2007. However, from 2008 to 2012 the
growth rate reduced and only reached an average level of 5.88% because Vietnam
suffered a high average inflation rate of 13.36% in this period. On the other hand, the
economic volatility also affects heavily on the stock market of Vietnam. In 2008, when
the inflation rate speeded up at the number of 23.12% from the rate of 8.35% in the
previous year, the ratio of market capitalization to GDP declined sharply at 10.53%
from the rate 27.52% of 2007. Therefore, what is the cause makes inflation rate be

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high? The WDI data shows that domestic credit provided by Vietnamese banking
sector (% of GDP) over grew in 2007. This rate increased by about 21% to the number
93.35% of GDP from the rate 71.21% of GDP in 2006.

GDP growth rate and Inflation rate
25.00
20.00

Rate (%)

15.00
10.00

Inflation Rate, 9.09
GDP Growth Rate,
5.03

5.00
96

97

98

99

00

01

02

03

04

05

06

07

08

09

10

11

12

(5.00)

Source: World Bank, World Development Indicators Online, at data.worldbank.org
Figure 2: GDP growth rate and Inflation rate in Vietnam (1996-2012)

The neighboring nations of Vietnam have experienced the period of fast economic
growth before Vietnam. Some of them became developed countries such as Japan,
Korea Republic, Singapore, while the economies of other countries are less developed
than our economy such as Philippines. And they also have better financial systems than
Vietnam including well functioned financial markets, sound financial institutions,
diversified financial instruments and fully worked-out financial infrastructure.
However, having better a financial system does not mean problems do not exists in the
economy. In fact, Asian countries suffered the financial crisis derived from the crisis in
banking system in 1997 and than their economies were destroyed seriously.

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Stock market capitalization (%GDP) and
Inflation rate
30.00
25.00

Stock market
capitalization, 23.25

Rate (%)

20.00
15.00
10.00

Inflation Rate, 9.09

5.00
0.00
96

97

98

99

00

01

02

03

04

05

06

07

08

09

10

11

12

-5.00

Source: World Bank, World Development Indicators Online, at data.worldbank.org
Figure 3: Stock market capitalization (% GDP) and Inflation rate in Vietnam (1996-2012)

In general, the process of economic growth always accompanies development of
financial system in Asia. Usually, further financial development significantly
contributes to economic growth (P.K. Rao. 2003. Development Finance). But the over
development of financial system such as greater financial depth and the large
capitalization of financial markets can create volatilities for economies. Recently
financial crises occur in shorter cycles compare with previous period and destroyed
economies more heavily. For instance, the banking crisis in Thailand in 1997 spread it
neighbors and destroyed the economies of almost Asian countries. This crisis
originated the disadvantages of financial system such as Government designated credit
allocations and the fostered financial liberalization (Nguyen Xuan Thanh, 2009, The
financial crisis in East Asia: The third crisis model). Or credit crisis in USA in 2008
affected the world economy (David Dapice, 2009, The Financial Crisis in Western and
Corollary to Vietnam) while the great crisis in USA in 1930 only affected some certain

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areas. In fact, the financial integration and the links between economies all over the
world through foreign trade and investment make the economy of a nation be sensitive
when there is a crisis in a certain area. From these observations, a question is given that
how the development of financial system promotes to economic growth or how to
restrain disadvantages created by financial development process so that speed up
economies stability.

Source: James A. Hanson (2006), Post-Crisis Challenges and Risks in East Asia and Latin America:
Where do they go from here.
Figure 4: GDP of some Asian Countries Pre- and Post-1997 Crisis

Although financial sector is usually the origin of crises, financial system still plays a
vital role of a modern economy and almost developed countries also have advanced
financial system. In the case of developing countries, developing the financial system
is usually encouraged. There are many previous empirical studies of famous economist
such as Ross Levine, Robert G. King and Thorsten Beck about the nexus between

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finance development and economic growth and they affirm financial development
fosters economic growth significantly. But, some authors think that the contribution of
financial systems to growth is only minor such as Lucas and Robinson. However they
also cannot negate the role of financial development. In the process development, some
disadvantages of financial systems may create economic crises in a certain country or
area. And after each crisis, policy makers need to make good financial systems’
shortcomings to prevent future volatilities for economies. The study is implemented to
find a positive impact of financial development indicators and some other factors on
economic growth. Base on the achieved results, the countries can build sounder
financial systems, reject the disadvantages and bring into play advantages of previous
financial systems so that future financial crises will be prevented, economies of the
nations will grow more rapidly and sustainably.
1.2 Research questions
The research will answer the some questions as following:
-

Does the financial development contribute significantly to the economic growth
of Vietnam and some Asian countries?

-

What other factor beside financial development indicators influences on the
economic growth in ten Asian economies?

-

What are recommendations to build an effectiveness financial system in order to
promote economic growth sustainably.

1.3 Objectives of the study
The objectives related to ten countries and territories in Asian (Thailand, Korea
Republic, China Republic, Philippines, Singapore, Indonesia, Malaysia, Hong Kong,
Japan and Vietnam) of the thesis include:

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-

To examine the significantly positive impact of financial development indicators
including private credit and stock market capitalization to economic growth in
ten Asian countries.

-

To find other factors except for financial development indicators promote
growth in ten Asian countries.

-

To recommend general policy for sustainable development in term of financial
system and economy of ten East Asian countries and territories.

1.4 Scope of the research
The research focuses on examining the impacts of financial development to economic
growth in ten countries and territories in Asia. They are Thailand, Korea Republic,
China Republic, Philippines, Singapore, Indonesia, Malaysia, Hong Kong, Japan and
Vietnam. The study investigates in period 1980 – 2012. However the dataset before
1990 of some countries (Vietnam, China Republic and Thailand) is not available.
1.5 Structure of the thesis
The layout of this paper consists of five main parts. Chapter 1 explains the reasons why
the topic of thesis is chosen, significant of the thesis, main objectives, some major
research questions and the scope of the research. Chapter 2 presents some definitions
of economic development, economic growth and financial development as well as
theory about finance and growth. Besides it provides a brief review of some literatures
on the relationship between financial development and growth. Discussing the analysis
method and describing the regression model in detail are displayed in chapter 3. This
section also mentions indicators used as variables in the model. Chapter 4 the results of
the regression model about the link between economic growth measured by per-capita
GDP growth and financial development represented by ratio of private credit to GDP,
margin between lending and saving rate, ratio of stock market capitalization to GDP;
some tests for independent variables as well as serial correlation, autocorrelation and

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stationary of variables. The last chapter provides some conclusions about the financegrowth nexus in Asian countries and gives some recommendations drawn from
developing process of financial system in neighboring Asian countries for improving
financial system in Vietnam. This chapter also identifies the limitations and
implications for further studies.

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CHAPTER 2: THEORETICAL AND EMPIRICAL BACKGROUND
2.1 Theoretical background

Efficient
Financial
System

Reduce Transaction &
Information Costs

Capital
Accumulation
(S, I increase)

Improve
Technology
Increase

Assess & Support
Efficient Projects

Increase
Efficiency in
Using Capital

Economic
Growth

Reduce Risk and
Information
Asymmetry

Entrepreneurship

Source: Tran Thi Que Giang (2010): The role of finance against economic growth

Figure 4: Relation between Financial Development and Economic Growth
P.K. Rao (P.K. Rao, 2003, Development Finance) defines that economic growth as the
rate of growth of total economic output, inclusive of contribution of capital
accumulation in this output. Growth is only a necessary condition rather than a
sufficient condition for the economic development. Among critical inputs for economic
development, financial resources and the access to these resources of all sectors in the
economic activities are the most important factors.
Meier defines (Meier, 1989 page 6) economic development is a process whereby the
real income per capita of a country increases over a long time period, the national poor
rate decreases and economic inequality in the society do not increase. This process is

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considered to be comprehensive if it satisfies some conditions such as: all sections of
the society are improved and total population come into a welfare living, while the
abject poverty is minimized and all section of the society are no longer deprived of
economic benefit.
A financial system consists of four components including financial institutions,
financial markets, financial instruments and financial infrastructure. Among financial
intermediaries, commercial banks are dominant in most countries all over the world
(especially Asia and Europe). While securities companies and investment banks play a
very important role in many developed nations (typically USA). Financial markets
include money market and capital markets. Financial instruments are financial products
traded in financial markets. And financial infrastructures are framework of laws and
system of platform in which financial transactions are implemented. P.K Rao defines
“Financial development is a process that marks improvement in quantity, quality, and
efficiency of financial intermediary services. This process involves the interaction of
many activities and institutions and possibly is associated with economic growth”. A
sound and effective financial system can accelerate growth rate by fostering the saving
rate and investment rate, promoting capital accumulation. The role of a financial
system is to ease market frictions through its five core functions (Demirguc-Kunt and
Levine, 2008): producing information about feasible investments and allocating
financial resources; supervising investment and exerting corporate governance after
providing resources; facilitating the trading, diversifying and controlling risk;
mobilizing savings; facilitating the exchange of goods and services. Financial
development is a process whereby its components including markets, institutions and
instruments enhance the effects of information, improve the enforcement and reduce
transaction costs and therefore do a corresponding better job at providing the five
financial functions. Each of these functions of a financial system impact on saving rate
and investment decisions and hence influences the economic growth.

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The theoretical literature of Mark Gertler (1988) and Ross Levine (1997) shows that
bank systems can reduce cost of information about firms and managers and decline
transaction cost. Well- functioned bank systems can enhance resource allocation and
promote growth by accurately supplying information about production technology and
by applying corporate governance (King and Levine 1993). Acquiring and processing
information may be implemented by financial intermediaries with reduced costs and
thereby allocating financial resources is improved. Producing information including
evaluating enterprises and their managers as well as economic conditions will be very
costly if it is implemented by individual investors instead of financial intermediaries. In
order to reduce such costs, individual investors join each other and undertake the role
of providing information for others like financial intermediaries. Through improving
information about enterprises, their board of management and economic environment,
financial institutions can foster economic growth. Besides, banks can increase
investment in high yield projects by facilitating risk management, enhancing the
liquidity of assets to savers and decreasing transaction costs (Bencivenga and Smith
1991). In the case financial resources become to be scarce and many investors need
capital for their investment, financial intermediaries will select the most promising and
efficient projects to fund after producing better information on them. In addition, the
rate of technology innovation can be promoted by financial intermediaries through
investing to innovate new goods and production processes of enterprise. In general,
developed banking systems can speed up economic growth. To measure the
development level of banking systems, Thorsten Beck et al (1999) used the value of
credits to private sector divided by GDP. Besides, the reduced information and
transaction costs of banking systems are measured by the spread between saving rate
and lending rate.
The functioning of stock markets can influence the economic growth rate (Levine and
Zervos 1996). Stock markets may affect economic growth through their liquidity,

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internationally integrated stock markets, promoting the acquisition of information
about firms and influencing corporate control. More liquid stock markets increase
long-run investment projects therefore the capital accumulation is improved and longterm growth is enhanced. Stock markets with better international integration will help
investors diversify risks and eventually foster investment in high profit projects. In
addition, investors can make money in stock markets from information they acquired
unless this information is still widely. Hence, this encourages investors to research and
monitor firms. Large, liquid and efficient stock markets can encourage mobilization of
savings and so they boost the efficiency of economies and speed up growth in long-run
(Levine and Zervos 1996). In order to evaluate the development level of stock markets,
theory provides some concepts including market size, market liquidity and integration
with world capital markets. To measure the size of stock markets, Levine and Zervos
(1996) used the ratio of total market value of listed companies divided by GDP.
Another indicator of stock market development is liquidity. To measure the liquidity,
Levine and Zervos (1996) used two indicators. The first is the value of equity
transactions relative to the size of the economy and the second is the ratio of the total
value of trades on the major stock exchanges divided by market capitalization.
Foreign Direct Investment (FDI) can influences on growth of countries through three
channels: FDI can increase total investment in countries receive inflows, FDI may be
more efficient than domestic capital it replaces and FDI increases the efficiency of
existing domestic capital. Besides, Foreign Indirect Investment (FII) flows into
countries will increase liquidity of the securities market of the countries. As the
conclusion of Zervos and Levine (1996), an increase in the liquidity of stock markets
will promote growth, so an increase in FII leads to the fostering of economic growth.
Financial openness is measured by the sum of FDI and FII. Therefore, financial
openness promotes economic growth theoretically.

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There are two isolated nexus between inflation rate and economic growth. A higher
inflation rate often occurs with more rapid growth in short-run. This nexus is the shortrun Philips curve relationship. However, this relationship doesn’t exist beyond the
short run. While in long term, high inflation rate impacts negatively on growth. High
inflation rate negatively impacts on growth directly by increasing information and
transaction costs. So it negatively effects on resource allocation and growth. High
inflation rate indirectly inhibits growth by impeding the development of financial
sector.
Economic theory usually does not clearly explain about the relationship between
Government expenditure and growth. In some case, an increase in the consumption of
Government will benefit economic growth. While in some case, a reduction of the
economic size of Government will promote growth. In other words, a suitable level of
Government expenditure will ensure for economic growth. Richard Rahn (1986) built a
curve reflect the relationship between the size of Government expenditure and growth.
This curve implies that the economic size of Government will be harmful for growth
rate if this size exceeds an optimal level. The optimal ratio of public expenditure to
GDP against economic growth should fluctuate from 15% to 25% (Pham The Anh,
2008). An excessive expenditure of public will negatively impact on growth due to:
public expenditures may be financed by some sources which negative influence growth
such as applying high tax rates, lending and printing money; an increase in
Government expenditure will reduce the expenditure of private sector and therefore
growth will be impeded; some public expenditure encourages negative behaviors;
Governments usually finance less efficient projects; the consumption of public sector
sometimes lessens competition in private sector leads to prevent new inventions.
The main idea of classical economists is that international trade extends the markets of
goods and services (Andrew Berg and Anne Krueger, 2001). This will improve the

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labor division and eventually increases productivity. Trade openness promotes
productivity growth in developing countries (Andrew Berg and Anne Krueger, 2001),
particularly the import of machinery and equipment. In addition, trade also promotes
productivity growth through the effects on the quality of imported intermediate and
capital goods.
2.2 Empirical review
The relationship between financial development and economic growth has been
proving by various studies of many economists. Some authors appraise finance is only
a minor growth factor including Lucas and Robinson. They argued that the role of
finance has been over-stressed. Other authors follow this view such as Hyoungsoo
Zang and Young Chul Kim (2007) used Sims-Geweke causality tests cannot find any
evidence of any positive unidirectional causal link from financial development
indicators to economic growth. Whilst others consider finance an important element of
growth. Schumpeter (1934) sees the banking sector as an engine of economic growth
through its allocating to the most productive use. Levine (2005) suggests that financial
institutions and markets including stock market and credit market can positively
contribute economic growth through several channels. The first channel is easing the
exchange of goods and services through the providing of payment services; the second
is mobilizing and pooling savings from large number of households and individuals;
acquiring and processing information about enterprises and efficient investment
projects is useful for allocating funds mobilize from savers to the most productive use
is the third channel; the forth channel is monitoring and controlling investment, as well
as carrying out corporate governance; lastly is the diversifying and reducing risk. Each
of these functions can impact on savings and investment decisions eventually influence
economic growth.

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King and Levine implemented a study in 1993 in order to examine whether highs level
of financial development impact positively on economic development. They used data
on over 80 countries over the period 1960-1989. The authors constructed four
indicators to measure financial development. The four indicators are the size of formal
financial intermediaries sector to GDP ratio, the importance of banks relative to central
bank, credit to private firms divided by GDP and the ratio of credit to private firms to
total credit. Their paper studied the link between financial development indicators and
four growth indicators. Their growth indicators includes real GDP per capita growth,
the rate of physical capital accumulation, the ratio of domestic investment to GDP and
a residual measure of improvement in the efficiency of physical capital accumulation.
The study concluded that four indicator of financial development level are strongly and
robustly correlated with growth indicators including the rate of physical capital
accumulation and the improvement in the efficiency of physical capital accumulation.
Levine and Zervos (1996) examined the long-run relationship between stock market
development and economic growth by examining data between 1976 and 1993 of 49
countries. They found that the stock market liquidity measured by the ratio of stock
trading to the size of the market and the economy and banking development measured
by the ratio of banks loans to private sector to GDP are positively and significantly
correlated with long-run economic growth. Besides, the study also concluded that
capital accumulation and productivity growth are the two channels through which
banks and stock markets link to economic growth.
In the case of stock market and credit market, Hagmay finds out a positive and
significant effect of bond market and the capital stock on growth. In addition, Hamid
Mohtadi and Sumit Agarwal examine the panel data for 21 developing countries from
1977 to 1997 and conclude that stock market development measured by stock market
capitalization divided by GDP and the ratio of trading volume to market capitalization

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contributes to long-run economic growth both directly and indirectly. Following the
direct channel, the liquidity of stock market has a significantly positive impact on
growth. And the fostering growth through investments of the market capitalization is
the indirect channel.
A study of Fink (2005) on 33 countries (include 11 transition economies) over the
period 1990-2001 finds that financial development has positive growth effects in the
short run rather than that in the long run. The authors used bank credit (value of
domestic claims of banking institutions divided by GDP), stock market capitalization
to GDP ratio and the ratio of market value of bonds to GDP. Stock market and bond
markets are proven to positively impact on growth. And Finks at al found that bank
credit positively and significantly linked to economic growth in the case of developed
economies, while bank credit did not promote growth in transition countries.
Guglielmo Maria Caporale et al (2009) examined the relationship between financial
development and economic growth in ten new EU members over the period 19942007. They used real GDP per capita growth as the dependent variable. The financial
development indicators they used are the ratio of credit to private sector to GDP, the
stock market capitalization to GDP ratio and the interest rate margin. They found that
activity of financial sector (the ratio of credit to private sector divided by GDP) and the
size of stock market (stock market capitalization ratio) promoted growth. Otherwise,
the interest rate margin was found to reduce growth. Besides, the authors also included
some other factor to the model as control variables. They are inflation rate, the
consumption of Government and foreign trade (total imports plus imports). The study
concluded that inflation rate and Government expenditure reduced economic growth,
while foreign trade promoted growth.
Another research of Gemma Estrada, Donghyun Park and Arief Ramayandi (2010)
confirm that the impact of financial development on the growth rate of Asia is not
considerably different than other places. In order to measure financial development,

Page 16


they use credit to private sector divided by GDP, the ratio of capital inflows (including
FDI and FII) to GDP and stock market capitalization to GDP ratio as financial
development indicators. All three indicators affect positively on growth. In addition,
Gemma Estrada et all also examined the influence of other indicators on economic
growth. These indicators are inflation rate and Government expenditure, measure the
macroeconomic stability and the sum of imports and exports as share of GDP capture
the degree of openness of an economy. The result showed that higher level of
economic openness, i.e. the higher trade openness will increase growth. By contrast,
inflation rate and the expenditure of Government only impeded the growth of
economies.
Another research for the case of Vietnam has been carried out by Anh Tuan Tran with
quarterly time series data from 1995 to 2006 to examine the causal link between
financial and growth. The result also presents a positive impact of financial
development on economic growth in Vietnam. This study uses six variables as
independent ones and GDP per capital growth as the dependent variable. Independent
variables of the model were domestic credit to GDP ratio, credit in the private sector to
GDP ratio, the ratio of financial depth to GDP, the interest rate margin and consumer
index. The regression result of the study shows that credit in the private sector to GDP
is positively and significantly impact on growth. Other indicators including the ratio of
total domestic credit to GDP, the interest rate margin and the consumer index
negatively and significantly link with growth. The remaining variable, financial depth
does not promote economic growth in the case of Vietnam.
In summary, there are two views about the role of financial development against
economic growth. The first view, which was originally presented by Lucas (1988),
argues that financial development is not causally related with economic growth.
However, authors follow Lucas’s view are minority and their results do not assert that

Page 17


the role of financial development in development process is not important. In the
second view, almost economists such as Ross Levine, Robert G. King, Schumpeter, etc
affirm that financial development positively affects on economic growth. The second
view is proven in many empirical studies for different economies in certain periods
such as “Finance and Growth: Schumpeter Might Be Right” in 1995 of Philip Arestis
and Panicos Demetriades; “Stock Markets, Corporate Finance and Economic Growth”
in 1996 of Asli Demirguc-Kunt and Ross Levine; etc. In the studies, the level of
financial development is measured by indicators: liquid liabilities of the financial
system divided by GDP (King and Levine, 1993), the ratio of bank credit divided by
bank credit plus central bank domestic assets (King and Levine, 1993), the ratio of
credit to private sector to GDP (King and Levine, 1993), the ratio of market value of all
list companies divided by GDP (Levine and Zervos, 1996), the subtracting deposit
interest rate from credit interest rate (Mehmet Zeki AK, May 2013). All the indicators
impact significantly on the growth rate.

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