Effect of financial development on agricultural growth in Pakistan : New extensions from bounds test to level relationships and Granger causality tests

Purpose – The purpose of this paper is to investigate the relationship between financial development and agriculture growth employing Cobb‐Douglas function by incorporating financial development as an important factor of production over the period 1971‐2011. Design/methodology/approach – The autoregressive distributed lag (ARDL) bounds testing approach to cointegration with structural breaks is applied to examine long run relationship between the variables. The direction of causality is detected by vector error correction method (VECM) Granger causality test and robustness of causality analysis is tested through innovative accounting approach (IAA). Findings – The empirical analysis confirmed that the series are cointegrated for long run relationship between agriculture growth, financial development, capital and labor. The results indicated that financial development has positive effect on agricultural growth. This implies that financial development plays a significant role in stemming agricultural production and hence agricultural growth. Both capital and labour in the agriculture sector also add to agricultural growth. The Granger causality analysis revealed bidirectional causality between agricultural growth and financial development. The robustness of these results is confirmed by innovative accounting approach (IAA). Practical implications – This study has important policy implications for policy‐making authorities to stimulate agricultural growth by improving the efficiency of the financial sector. Originality/value – This paper convincingly argues that there is a need for case‐by‐case study on such a project in view of each country's unique characteristics.