Financial Development, Economic Growth and Financial Crisis in Asian Emerging Economies: Finance-Growth-Crisis Nexus

First of all, for India and Malaysia, their finance-growth causality is detected as bilateral in the VECM assessment, whereas their ARDL estimates reject the cointegrating relationship in EG-ARDL (where EG is the dependent variable) and thus suggest the causal link of growth^-finance. Recognizing these results, we conclude that the finance-growth nexus is primarily bidirectional but more inclining towards growth^finance in India and Malaysia. As far as Korea’s finance-growth nexus is concerned, while the VECM results support the causal link of growth^finance, the ARDL results demonstrate the bilateral causality. However, since the weak exogeneity test results are insignificant in Korea’s EG-ARDL and FD-ARDL (where FD is the dependent variable), we highlight the stronger evidence of finance-growth in Korea’s VECM outcomes. And as far as Indonesia and Thailand are concerned, their finance-growth nexus cannot be investigated through ARDL, as the bounds test results reject the long-run causality between finance and growth in the two countries. Nonetheless the VECM estimates clearly show that the causality runs finance-growth in Indonesia and growth^finance in Thailand, respectively. Subsequently, the conclusions of the five countries’ finance-growth nexus are summarized in Table 6. As we can see, a variation across countries is observed even though the same variables and methodology are employed for all the countries. The demand-leading hypothesis — economic growth leads to higher financial development but not vice versa — is supported by Thailand’s results. Experiential learning

Although their finance-growth nexus is concluded as bilateral, both India and Malaysia’s estimates partially support the demand-leading hypothesis. On the other hand, the supply-leading hypothesis (finance-growth) is endorsed by Indonesia and Korea. Table 7 documents the effects of financial crisis either on growth or on finance. The results are summarized as: crisis^finance(+) in India; no significant finding for Indonesia; different estimates are detected through VECM and ARDL in Korea; crisis^finance(+) and crisis^growth in Malaysia; and crisis^finance(+) in Thailand. Likewise Table 8 reports how financial crisis is caused by financial development, economic growth and financial repression. We identify growth^crisis and finance^crisis(+) in all the countries except Korea where growth^crisis(+) and finance^crisis. As far as the impact of repression on crisis is concerned, it is repression^crisis(+) in all the countries except Thailand where repression^crisis. Looking at the results in Tables 7 and 8, we highlight a positive bilateral causality of finance^crisis that is discovered in India, Malaysia and Thailand. This causation might be due to financial boom that can unusually increase the volume of credit and/or encourage stock market activities in an economy irrespective of real sector conditions. Therefore the causality of finance^crisis(+) implies that if the government or monetary authorities adopt a policy that simply increases volatility in an economy, the extent of financial deepening further rises. However, such volatility-led policy implication is obviously adverse and dangerous, leading to financial fragility and ultimately to financial crisis. This process coincides with our initial prediction that financial boom ends up with financial crisis. Different is Korea where a positive bilateral causality of growth^crisis is observed and a uniformed result is not found for the causality between finance and crisis. Thus our analysis documents that Korea’s transmission mechanisms relevant to financial crisis differs from those in the other countries.

Table 6: Finance-growth-crisis nexus (2)

Country Result
India Finance-growth but more inclining toward growth^-finance
Indonesia Finance-growth
Korea Finance-growth
Malaysia Finance-growth but more inclining toward growth^-finance
Thailand Growth^-finance

Table 7: Finance-growth-crisis nexus (1)

Country Crisis^growthEG-VECM EG-ARDL Crisis^-financeFD-VECM FD-ARDL
India No No Yes(+)* No§
Indonesia No§ No No No
Korea Yes(+)*§ No No Yes(+)*
Malaysia Yes*§ No Yes(+)*§ Yes(+)*
Thailand No No Yes(+)***§ No

Table 8: Finance-growth-crisis nexus (2)

Country Growth^crisis Finance^crisis Reoression^crisis
FC-VECM FC-ARDL FC-VECM FC-ARDL FC-VECM FC-ARDL
India Yes* Yes* Yes(+)* Yes(+)* Yes(+)* Yes(+)*
Indonesia Yes* Yes* Yes(+)* Yes(+)* Yes(+)* Yes(+)*
Korea Yes(+)* Yes(+)* Yes* Yes* Yes(+)* Yes(+)*
Malaysia NoT Yes* NoT Yes(+)* NoT Yes(+)*
Thailand Yes* Yes* Yes(+)* Yes(+)* Yes* Yes*