Effect of financial crisis on sustainable growth: Empirical evidence from Pakistan

Abstract

This study identifies the real and financial sector transmission channels of financial crisis in Pakistan and sees how global financial turmoil affects the growth rate of Pakistan. Cooray augmented Mankiw–Romer–Weil growth model is extended by incorporating the financial distortions in financial sector. The empirical validity is tested by applying ARDL approach to cointegration in case of Pakistan over the period 1972–2012. The long-run cointegrating relationship between the financial crisis and economic growth indicates that financial crisis put downward pressure on per capita output and reduces the speed of convergence toward the steady state level of output. Financial development promotes the economic growth. However, to realize the benefits from the financial development, the financial inefficiency resulting from currency crisis, banking crisis, and stock market crisis needs to be reduced and would limits the adverse effect of financial turmoil on the economic growth of the country.