The Financial Development and Economic Growth: (Granger Causality Test)

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Addis Ababa University


The study determines the causal relationship between financial development and economic growth in Ethiopia. In order to test for existence of long run relationship between the variables, the study employs a co integration and vector error correction model (VECM) technique. Granger causality test was applied to the variables to test for the direction of causation between variables. The study uses annual data for the period of 1980 to 2014. Economic growth is peroxide by gross domestic product, and financial development is peroxide by bank deposit, domestic credit, broadly defined money supply (M2); and credit to the private sector. The result shows that there is a stable long-run relationship between financial development and economic growth. The Granger causality test indicates that the causality runs from both directions which is economic growths to financial development and from financial development to economic growth. The results suggest that the real sector of the economy should be developed further in order to stimulate further development in the economy The results indicate that the causal effect of financial development for the economic growth is more than the economic effects to the financial development.



Development and Economic Growth