Financial development – does it lessen poverty?

Abstract

Purpose The purpose of this paper is to empirically examine the impact of financial development on poverty reduction in developing countries. The paper also investigates whether financial development affects poverty via institutional quality and GDP growth. Design/methodology/approach To take into account the dynamics nature of panel data and country-specific effects, the authors use a two-step system GMM estimator. The authors also employ a large array of measures of financial development in order to check the robustness of the results. The analysis is carried out for a sample of developing countries using an unbalanced panel data set covering the period 1985-2008. Findings The authors find that financial development plays a significant role in reducing absolute poverty. However, the authors do not find any pro-poor impact of financial development when poverty is measured in relative terms. The authors show that the impact of financial development on poverty alleviation is statistically significant when liquid liabilities and credit granted to the private sector are used as a proxy of financial development. The results on the indirect effect of financial development indicate that financial sector development has larger effects on poverty reduction when institutional arrangements are sound or/and when economic growth is high. Practical implications The findings suggest that the inference for a pro-poor effect of financial development depends primarily on the measure of poverty and the choice of the proxy for financial development. Banking sector reforms may be an effective instrument to tackle absolute levels poverty. However, the policy makers should not rely only on financial reforms, regardless of whether they are based on banks or stock markets, to narrow the gap between the poorest quintile of the population and the richer quintiles. Rather, they should also utilize fiscal policies, such as progressive taxation and public-expenditure projects, to redistribute resources. Originality/value The paper differs from the previous studies in several ways. First, it studies the financial development-poverty nexus using three alternative indices of poverty. Second, this study focusses on a sample of developing countries only. As the structure and development level of the financial sector in poor and rich countries could differ significantly, focussing on developing countries helps mitigate the problem of heterogeneity arising from using a pooled sample of rich and poor countries. Third, robust estimation methods are applied that take into account the dynamic nature of empirical models and country-specific effects.

Does Financial Development Reduce the Poverty Gap?

“…In contrast to Kiendrebeogo and Minea (2016), these authors also find that institutional quality and financial development are substitutes in reducing poverty. The same result is found by Rashid and Intartaglia (2017) who report that financial development (proxied by M3 and private credit) reduces poverty (proxied by both headcount poverty and the poverty gap) using an unbalanced sample of developing countries covering the period 1985-2008. Their results suggest that financial development has larger effects on poverty reduction when institutional arrangements are sound.…”

“…We prefer using a large panel of countries with 5-year averages. Except for Seven and Coskun (2016), Cepparulo et al (2017), and Rashid and Intartaglia (2017), previous panel studies employ annual data. We use five-year non-overlapping averages for three reasons (see also Dabla-Norris et al, 2015;de Haan & Sturm, 2017).…”

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“…A 1% increase (decrease) in institutional quality resulted in a 0.0026-unit increase (decrease) in human development thus poverty mitigation. This confirms previous findings by Cepparulo, Cuestas, and Intartaglia (2016); Rashid and Intartaglia (2017); Kaidi et al (2019). Results from Model 1(b) are interesting.…”

Poverty Reduction and Stock Market Development: Evidence from Africa

“…Therefore increasing access to financial resources will magnify economic prospects for less privileged to fund investment of their children.Furthermore, there are empirical kinds of literatures reporting a non-linear relationship between the variables. For exampleRashid and Intartaglia (2017),Kim and Lin (2011), andBeck et al (2007) suggest that the financial development can reduce poverty only when there are strong regulatory and institutional frameworks whileRewilak (2017) found that financial deepening has contributed significantly in providing access to finance for the poor. Similarly, Prete (2013) uncovers the effect of financial development on poverty reduction is driven by economic literacy.…”