The Effect of Financial Development on Economic Growth in Developing Countries

The financial system provides `real` services to the economy that are crucial for economic activity and long-run growth. Specifically, the financial system facilitates transactions, eases risk management, mobilizes savings, allocates savings, and monitors the behavior of managers after funding projects. These five financial services provide a rough definition of financial development. Financial systems that are better at providing these services are better developed financially. This study investigates the influence of financial development on economic growth in developing countries. It selects four indicators to measure the level of financial development, two indicators of the size of the financial sector (Liquid liabilities and Central bank assets) and two indicators of the activity of the financial sector (Bank credit and Deposit money-Central bank). The study applies an Ordinary Least Squares (OLS) regression to examine the effect of these indicators on the level of economic growth for a set of 42 developing countries in the period between 1970 and 1995. According to the analysis conducted, the results show a high and significant effect of the level of financial development on economic growth for these developing countries