Natural resources and financial development: The role of institutional quality

Abstract

This study investigates the natural resource rent and financial development nexus by subsuming the critical role of institutional quality in this paradigm in a sample of 87 Emerging and Developing Economies (EMDEs), during the period from 1984 to 2018. The findings demonstrate that natural resources rent undermines finance and supports the natural resource curse hypothesis in the financial sector of EMDEs. The institutional quality has a significant positive impact on finance and it positively moderates the resource-finance nexus. We argue that institutional quality follows some channels through which the natural resource curse operates and turns the resource curse into a blessing for the financial sector. Furthermore, the results document a threshold effect of institutional quality in the resource-finance relationship. Precisely, we find that natural resources rent positively explains finance, once a certain threshold level of institutional quality is attained – below which the natural resources rent becomes a curse, and hinders financial development. Therefore, policy attentions are recommended to promote finance by efficient utilization of natural resources through promoting and maintaining institutional quality beyond a certain threshold level, and incorporating its vital role. Our results are robust to the use of different samples, alternative specifications, and alternative measures of finance and institutional quality, and are practically useful to the policymakers concerned about EMDEs.