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Since the 18th century, many theoretical and empirical studies have shown that the development of the national financial system plays an important role and is one of the basic factors th

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PHẠM DƯƠNG PHƯƠNG THẢO

FINANCIAL DEVELOPMENT AND ECONOMIC GROWTH

Major: Finance – Banking Code: 9340201

SUMMARY OF ECONOMICS PH.D’S THESIS

Ho Chi Minh City - 2019

The project is completed at:

University of Economics Ho Chi Minh City

Supervisor:

Associate Professor, Ph.D Phan Thị Bích Nguyệt

Reviewer 1 :

Reviewer 2 :

Reviewer 3 :

The dissertation will be defended at the committee at the school level at: time day month year

The thesis can be found at the library: University of Economics

Ho Chi Minh City

CHAPTER 1: INTRODUCTION

1.1 Research problem

Economic growth has always been considered one of the top concerns of countries around the world Since the 18th century, many theoretical and empirical studies have shown that the development of the national financial system plays an important role and is one of the basic factors that make a difference in growth ofcountries (Levine, 1997) Since then, there have been many different, even contradictory points of view, in assessing the role of financial development in economic growth

In the past, with a lot of theories and empirical evidence supporting, it is believed that the more the financial system develops, the more it promotes economic growth This group of points of view has received a great deal of consensus from researchers until recently.Besides the view on the positive impact of financial development on economic growth, there appears the opposite view flow such as Lucas (1988) states that economists were overemphasizing the role of financial factors in economic growth, even some authors also argued that financial development has a negative and detrimental effect on economic growth, or no sufficient evidence to confirm the positive effect of this factor on growth Moreover, the global crisis 2008forced both researchers and practical policy makers to reconsider their previous conclusions This crisis is an evidence of how the financial system malfunctioning directly and indirectly wastes national resources After the crisis, specialists of International Monetary Fund (IMF) have warned that financial development should only reach an optimal level, which over it will likely hinder economic growth Therefore, whether effects of financial system development on

economic growth are positive or negative should be re-considered to have more proper anwers The reversal of the impact of financial development on economic growth is also found in many subsequent studies such as Rioja and Valev (2004a), Shen and Lee (2006), Ergungor (2008), Huang and Lin (2009), Law, Azman-Saini, and Ibrahim (2013) but the problem arising here is the contradiction in their conclusions

For Asian countries, the number of empirical studies on this topic officially published is quite small such as Jeanneney et al (2006), Ang (2009), Wong and Zhou (2010) Furthermore, samples of these research did not fully reflect the characteristics of Asian countries after the 2008 crisis because of limited access to data such as Wong and Zhou (2010) compared 3 Asian countries Hong Kong, China, Japan with 2 economies US and UK in the period before the crisis (1988-2008); Iyare và Moore (2011) studied with the sample of 5 countries

in which there was only one Asian country, that is Singapore Hsueh

et al (2013) analyzed also with sample of only 10 Asian countries (no Vietnam) and only limited in the period of 1980-2007, i.e before the crisis, in which the economic-political context was much different from the present Law and Singh (2014) studied 87 developed and developing economies in the world in 1980-2010; however Asia also had only 8 countries included in this study while China, Vietnam, and other Asian economies were not considered

1.2 Research gaps

The researchers' views on the role and impact of financial development on economic growth are not consistent but there are contradiction in conclusions There is no consensus among world financial experts on the direction of development necessary for the

financial systems of Asian countries While IMF experts has warned

of potential risks to the economy if too much financial development from 2012, now on the official website of Asian Development Bank (ADB) still suggests that Asian countries should increase their financial development based on empirical resaerch results cited by these experts showing that financial development of Asian countries

is still much lower than of European and American, and financial development has positive effect on economic growth

So, what is right policy for financial development of Asian economies?

The economic and political context of the world after the crisis

in 2008 has many fluctuations and differences compared to the previous period, posing problems for governments as well as economic researchers to reconsider the role of financial development

on growth

For Asia, although many emerging economies have high growth rates and attract much attention of investors, this continent has not really been researched fully and completely in studies Especially, analization of recent practice shows that growth rates of countries in Asia are tending to decrease According to IMF’ forecast, over the next three decades, this trend of growth in Asian countries will become more and more serious, which raises the issue that Asian economies need to take appropriate solutions to maintain economic growth in long term, regarding the policy of developing the national financial system- one of important issues of economic growth policy

Are conclusions found from previous studies on European countries suitable for application in Asian countries, with a lot of particular differences?

In addition, no official research has been carried out to fully coordinate both aspects of financial development: the development of the banking sector and the development of the stock market

These above-mentioned research gaps lead to the need of shed light on true impact of financial development on economic growth with a sample for Asian countries, taking into account both income factors and the characteristics of emerging economies This is also the author’s motivation to implement this thesis with expectation to contribute more to the academic field more clearly understanding of Asian economies in new context of the world

1.3 Research Objectives

This research mainly focuses on the following objectives: Examine the effects of financial development on economic growth in Asian economies, based on the research results to suggest orientation solutions to develop financial system for them, aiming to economic growth in long term

To do that, there are particular objectives in detailed:

 Determine the threshold of financial development in the relationship between financial development and economic growth

 Test how financial development affects on economic growth

 Based on the research results, suggest orientation solutions to

develop financial system for Asian countries

1.4 Contributions

The thesis has contributed by providing detailed information to theory on impacts of financial system development on economic growth with case studies on Asian countries Before the 2008 financial crisis, economic researchers and policy-makers assumed that more

finance more economic growth, which implied expansion and development of financial sector as much as possible This has become

an essential element in the research models of growth However, empirical results of this thesis have proved with evidence that it is not always good to develop a strong financial sector for the economy It is more important to determine the limits of financial development to ensure long-term economic growth

Moreover, other previous research in the same topic focused little on Asian Countries while they are potential regions developing strongly It is necessary to have a full official research about these economies Therefore, this thesis is the first one to be carried on with more complete sample (33 Asian countries), using sub-samples on income for analyzing and comparison, combining bank-based and market-based data

With the empirical results, this thesis also contributes on academic review on the topic Theoretical and empirical-researching trends on the relationship between finance and economic growth are reviewed systematically and coherently

Based on the results, the author also suggests solutions and ideas on policies of finanacial development aimed to long-term economic growth for Asian economies So, they are helpful reference for policy-makers and governments

CHAPTER 2 LITERATURE REVIEW

2.1 Financial development

Levine (2005) defines that financial development is the improvement of functions provided by the financial system including: accumulating savings, distributing capital to profitable investment opportunities, risk monitoring and management of these investments, diversify risks, create favorable conditions for goods exchange and service provision

Each of the afore-mentioned functions of the financial system can affect savings and investment decisions as well as the effectiveness of allocated funds According to Bernanke, Gertler, and Gilchrist (1999), at some extent, financial development can reduce information asymmetry, reduce financial constraints, and promote risk sharing Financial development also helps the financial system to absorb shocks in the economy, reduce the amplification of adverse impacts of economic shocks, and reduce economic fluctuations and inequality in society

Dorruci et al (2009) state that financial development is the ability of a country to effectively switch from a savings channel to an investment channel, including:

(1) institute quality and regulations

(2) size of financial markets, variety of financial instruments, easiness of access to individual investors

(3) financial markets work well through their efficiency and liquidity

Beside the above definition, Hartmann et al (2007) stated that financial development is a process of financial innovation as well as

improving institutions and organizations in the financial system, reducing information asymmetry, increasing market perfection, increasing the ability for organizations engaged in contractual financial transactions, reduce transaction costs, increase competition

So, the scope of financial development includes improvement, innovation of financial products, capacity building of entities and financial institutions

From the above definitions, it can be understood that financial development is a process of improving the quantity, quality and efficiency of services and financial intermediaries This process involves the operation and interaction of various organizations and individuals in the financial market

2.2 Measurement of financial development

Many economists in their studies have proposed different pooxies to measure financial development Most empirical studies on financial development have been around since the 1970s, often using the following three common indicators to measure the level of financial development:

 Stock market capitalization to GDP

 Stock traded, total value (% of GDP)

 Stock market turnover ratio (%)

Beside these methods, some researchers such as Boy and Jalad (2012) also use micro-data sources but this method has disadvantage

of not having access to data for developing countries, where information disclosure and storage systems are not yet consistent, so this approach is not widely used

From 2016, IMF suggests an experiement new measurement that

is FD-index to evaluate the level of financial development This new index is presented here to recognize new trends and efforts of experts

to measure the development of financial system Because it continues

to be completed based on opnions of specialists, it is not used in this thesis

2.3 Importance of financial development in models of economic growth

It can be seen that although theories of economic growth have different arguments, they aimed to clarify which factors affect and limitation of the growth From traditional models of Adam Smith and David Ricardo to modern endogenous ones nowadays, capital is always the key factor in all analysis

King and Levine (1993a) indicates that the rate of capital accumulation and the efficiency of capital use are enhanced by the development of financial services A well-functioning financial system can promote economic growth not only by raising capital from savings for investment, but more importantly by allocating capital efficiently, thereby improving the productivity of economy

2.4 Empirical evidence of financial development and economic growth

Previous empirical studies can be divided into two main trends

as following:

(1) Financial development has a linear relation with Economic growth; and has a positive effect: This trend has gained

a lot of consensus and predominate in previous research papers Those who support this view argue that less developed financial system restricts economic growth Therefore, government policy must aim to encourage the development of the financial system (Schumeter and Opie,1934; Gurley and Shaw,1955; McKinnon 1973; Shaw,1973; and several researches later supporting this point of view such King and Levine (1993a,b), Levine (1997, 2003), Rajan and Zingales (1998), Levine and cộng sự (2000), Beck and Levine (2004), Beck et al (2000,2005) These scholars argue that financial development involves capital accumulation, which is the driving force for economic growth from the viewpoint of Neo-classical growth theory and Endogenous growth theory

(2) Relationship between Financial development and Economic growth is non-linear; so in some extent, effect of financial development changes from positive to negative on economic growth: Cecchetti và Kharroubi (2012); Arcand và cộng sự

(2012); Law, Azman-Saini, và Ibrahim (2013); Rousseau và Wachtel (2011) In 2014 there are many studies related to the nonlinear relationship between finance and growth Law and Singh (2014) also raise the question of whether financial development impedes economic growth after a country's financial development reaches a certain threshold Contributing to this topic is research of Owen and Temesvary (2014); Samargandi et al (2015)

The number of officially published empirical studies on this topic

in Asian countries is quite small Ang (2009) examined the role of financial intermediaries in Malaysia's economic growth The author

found that the more financial development is, the more economic growth is promoted This result is statistically significant for the Malaysian economy - an economy with rapid growth and many reforms to the financial sector For Asia, there are other studies of Jeanneney et al (2006) examined about China; Wong and Zhou (2010); Estrada et al (2010)

Experimental studies in Vietnam have not been published internationally, except Anwar and Nguyen (2011) This topic in the actual context of Vietnam is mentioned mainly theoretically such as Phạm Minh Chính and Vương Quân Hoàng (2009), Vương Quân Hoàng (2010); Vương Quân Hoàng, Phạm Minh Chính and Trần Trí Dũng (2010); Trương Văn Phước (2017) These analyses are presented in a theoretical form, not empirical evidence

CHAPTER 3 RESEARCH METHODOLOGY

3.1 Research method

Panel data is used to analyze in this thesis for its advantage that combines both dimensions of countries and time Panel Threshold Regression model for panel data by Hansen (1999) is used This model

is then developed by Wang (2015) in Stata software with the feature

of Fixed Effect This method requires data to be completely balanced panel

Based on King and Levine (1993 a,b) combining with threshold function in Law and Singh (2014), the threshold regression model in this thesis takes the following form:

𝐺𝑅𝑂𝑊𝑇𝐻𝑖𝑡 = 𝜇𝑖+ 𝛽1𝐹𝐷𝑖𝑡𝐼(𝐹𝐷𝑖𝑡 ≤ 𝜆) + 𝛿1𝐼(𝐹𝐷𝑖𝑡 ≤ 𝜆)

+ 𝛽2𝐹𝐷𝑖𝑡𝐼(𝐹𝐷𝑖𝑡 > 𝜆) + 𝛾𝑋𝑖𝑡+𝜃𝑡+𝜀𝑖𝑡