This article explores the relationship between financial development and growth in manufacturing and service sectors in 77 developing economies over the period 1984–2013. Specifically, we examine whether the size of the financial sector matters and if it does, whether the size of the financial sector in these countries is of a sufficient scale for credit and liquidity expansion to benefit the economy. Using the two-step system generalized method of moments, we find a u-shaped relationship between either manufacturing or services growth and financial size, indicating that a critical level of financial scale has to be achieved for financial expansion to positively affect the growth. For some 50%–90 per cent of the economies in the sample, there is a robustly long-run adverse effect of financial expansion on both manufacturing and services growth, indicating a case of ‘too little’ finance, likely explained by a combination of weak institutions, market failures and the existence of large and lumpy investments that require sufficient financial scale.
Financial development (FD) is multi‐faceted and it is not always clear how best to characterize the type or aspect of FD that matters for growth outcomes. Using two‐step system generalized method of moments on the IMF FD indices and a panel dataset of 108 countries spanning seven, 5‐year period averages from 1987 to 2016, this article finds that certain aspects of FD matter more than others in developing economies: financial market (FM) depth, efficiency and access matter for services growth, while both FM and financial institution (FI) depth and FM access matter for manufacturing growth, highlighting the existing complementarities between certain aspects of FI‐ and FM‐based systems that are conducive to growth. These results suggest the importance of developing and strengthening domestic institutions and implementing policies that would be conducive to the faster integration of new technologies towards the better intermediation and use of financial capital for growth and development objectives, without destabilizing the financial sector.
Would a shift to a Federal system raise or lower corruption in low-income countries? Local ownership, which is a strong argument for control of corruption under a Federal system, may not always be effective in jurisdictions with weak institutions. Our theoretical model shows that the net effect of these conflicting pressures cannot be determined a priori. Thus, we test empirically whether de jure federalism and/or de facto federalism are each a good predictor of control of corruption. We find that in countries with sufficiently high quality of governance or levels of development, neither de jure federalism nor de facto federalism matters as much as other dimensions of governance. However, in countries with poor governance, de jure federalism may have an adverse effect on control of corruption. A developing economy, which ranks poorly in terms of governance, cannot expect a reduction in corruption to follow a shift to a Federal system.
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