Abstract
This study examines the causal relationship between economic growth, financial development, and national governance. To analyze the three-way link of the stated variables, the Panel Vector Auto-Regressive (PVAR) model was applied to 115 economies between 1996 to 2018. The impact of each variable shock is explored through Impulse Response Function (IRF) and variance decomposition. The results indicate that the financial development and national governance shocks have a more persistent impact on economic growth in low-income economies than emerging and developed economies. In contrast, output shock influences long-term financial development in developed economies and affects national governance in a monotonic fashion in all three sets of economies. Moreover, national governance is explored as a critical factor for economic growth especially in low-income economies.
Highlights
Increasing income inequalities and limited access to economic resource around the world is nowadays a crucial global issue [1]
The current study explores the link between financial development, government quality, and economic growth for developed, emerging, and low-income economies
The correct lag length is essential before applying the Panel Vector Auto-Regressive (PVAR) model
Summary
Increasing income inequalities and limited access to economic resource around the world is nowadays a crucial global issue [1]. Fundamental economic theories suggest that human capital, physical capital, and technology can significantly increase aggregate output [3,4] If these factors can cause such a difference in income across countries (up to fifty-fold), why do various nations fail to invest more in human resources and physical capital or improve their technologies? It is important to consider the fundamental causes along with proximate causes while examining income differences across nations—reasons such as the role of institutions, geography, culture, and other exogenous factors.
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