Financial Development-Economic Growth Nexus: The Case of Eastern European Countries

Abstract

Whether financial development is conducive to economic growth is one of the fundamental problems that has been investigated by economists for decades. While majority of the studies find a positive effect of financial development on economic growth there are also some analyses which suggest that financial development has a negative impact on economic growth. In this study, we investigate the effect of financial development on economic growth in 12 Eastern European countries over the period 1990-2011 by taking into account the possible endogeneity between these variables and by using three different financial development indicators. We also consider the impact of governance and enterprise restructuring together with the effects of the Enlargement of the European Union in 2004 and 2008 global economic crisis in our empirical analysis. Our results suggest that while none of the financial development indicators has an effect on economic growth by itself the interaction term between domestic credit to private sector and governance and enterprise restructuring negatively affects economic growth.