Socio - Economic Factors in the Finance - Growth Nexus

The finance-growth nexus is discussed with respect to possible conclusions from economic history, contributions from economic theory as well as recent empirical crosscountry studies. Then, a new proxy for financial development is introduced, which refers to the input of real resources into the financial system. Based on this proxy, an empirical framework is elaborated to clarify the importance of financial activity for economic growth. Interaction effects between financial development and catching-up, education as well as physical capital accumulation are considered. The numerical analyses, covering a panel of 93 countries from 1970–90, imply that financial activity generally had a positive impact on economic growth. To clarify whether socio-economic characteristics modify this general finance-growth nexus, the countries in our sample are classified according to measures of concepts like ‘democracy’, ‘rule of law’ and ‘corporatism’. These rankings are used to split the total of 93 countries into distinctive subgroups. It is shown that the generally positive partial correlation between (lagged) proxies for financial development (as well as its interaction terms) and growth are significantly higher in the more law enforcing and more corporatist subgroups. It is therefore concluded that it is crucial to consider the embeddedness of the financial sector as an economic institution into its broader social, cultural and historical context.