Financial development and Economic Growth: The Case of Cape Verde

This study empirically investigates the long-run relationship and short-run dynamics between financial development and economic growth in Cape Verde for the period 1980 - 2011. The study employs the Johansen and Juselius approach to cointegration, pairwise granger causality test for causality and the VECM approach was also explored. The analysis was carried out using three indicators to measure financial development which are the money supply as a percentage of GDP(M2), ratio of credit provided by commercial banks as a percentage of GDP(DCPB) and the ratio of domestic credit to the private sector as a percentage of GDP (DCTP). Control variables such as interest rate and population growth rate were included in the analysis. The empirical result indicates the existence of a long run relationship between economic growth and financial development variables in Cape Verde. However, no short run relationship exists between economic growth and financial development variables but between the control variables and economic growth. The study also found a unidirectional relationship running from financial development to economic growth when money supply( M2) is used as well as a bidirectional causality running from financial development to economic growth and vice versa, when domestic credit provided by commercial bank (DCPB) is used. The study found a unidirectional causality from economic growth to domestic credit to private sector (DCTP).