Derivative markets and economic growth: Is there a relationship?

The spread of capital markets during the half century to-date is a notable global phenomenon in economic development. Derivative markets spread globally in the last quarter century spreading form just two to some 50 in 2007. But the role of derivative markets to economic development has yet been studied. This paper reports new findings on the relationship between derivative market development and (a) economic growth and (b) spot market factors. The results provide very scant support to a positive functional contribution hypothesis by some scholars about derivative markets. However, a negative relationship between the liquidity level of derivative markets and economic growth in the cases of developed countries indicates that the risk transfer function of the derivative markets is a contribution to economic growth. We find the liquidity level of underlying spot market is a crucial factor for the success of derivative markets. This is a new finding that explains why emerging markets with illiquid spot capital markets had very limited success in sustaining the growth of derivative markets. All other economic and financial demand determinants were found to be insignificant. The study suggests that if there is sufficient liquidity in the underlying spot market, derivative trading can be sustained.