Abstract
This paper empirically investigates the finance-growth nexus for an annual data set of Indonesia during the last two decades. The purpose is to examine the causal relationship between financial development and economic growth in Indonesia and also to test the structural breaks in the finance-growth relationship to investigate the change in policy regimes. To examine the causal relationship between financial development and economic growth, the newly proposed ARDL bound testing approach by Pesaran et al. (1996) has been applied .The estimated results support the view of Lucas (1988) that finance doesn’t matter for economic growth. Structural break is identified in the year 1997 in Indonesia with the estimated finance-growth relationship. The stability of the estimated relationship is examined with break-point Chow tests (F tests).
Highlights
The relationship between financial development and economic growth has been a subject of great interest and debate among economists for many years
The purpose of this study is to examine the causal relationship between financial development and economic growth in Indonesia and to test the structural breaks in the finance-growth relationship due to the change in policy regimes
Structural break is identified in the year 1997 in Indonesia with the estimated finance-growth relationship
Summary
The relationship between financial development and economic growth has been a subject of great interest and debate among economists for many years. According to Bagehot (1873), Schumpeter (1934), Hicks (1969), McKinnon (1973), Shaw (1973), Christopoulos & Tsionas (2004) and some others financial development acts as an engine of economic growth (Ketteni, 2007). This Supply-leading’ hypothesis shows finance as a contributing factor in economic growth. The view is that, financial sector transfers resources from the low-growth sector to modern high-growth sectors, and promotes and stimulates entrepreneurial responses in these modern sectors (Christopoulos & Tsionas, 2004). The structuralists contend that the quantity and composition of financial variables induces economic growth by directly increasing saving in the form of financial assets, thereby, encouraging capital formation and economic growth
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