Stock market development and economic growth: Empirical evidence from China

Abstract

The interplay between the stock market and the real economy is crucial in the various channels through which financial markets drive economic growth. In the current study, we investigate the effects of this relationship on the Chinese economy, which is the fastest growing and largest emerging economy in the world. The methodology incudes unit root testing in the presence of structural breaks and the Autoregressive distributed lag (ARDL) model. The results of the analysis showed that the global financial crisis from 2007 to 2012 had a significant impact on both the real sector and the financial sector in China. Our findings also suggest that the Shanghai A share market has had a long-run negative association with the real sector of the economy; however, the magnitude of impact has been miniscule. These findings indicate that this negative relationship is proof of the so-called existence of irrational prosperity in the stock market and the economic bubble in China's financial sector. The findings did not show any evidence of a relationship between the stock market and the real economy in the short run. Toda Yamamoto causality test showed that economic growth has spurred the development of the Shenzhen B share market. Furthermore, the equally weighted index showed that stock market liquidity and stock market sectoral indices were alternative measures of stock market activities. The results were robust to the alternative measures of stock market activities. The results also indicate that state-owned monopolies play an important role in China's economic performance because they stimulate the economy in the short run.