Contents of the volume

2017, Volume 70 - Issue 1

ISSN: 2499-8265
RSS feed citation: At RePEc
Publication date: 01 February 2017


Lumengo Bonga-Bonga, Nomvuyo GUMA

Read the article


Abdur Rahman Forhad, Ghassem A. Homaifar, Abul Hasnat Muhammed Salimullah

Read the article


Bassam Hamdar, Samer Nouayhid

Read the article


Sheilla Nyasha, Yvonne Gwenhure, Nicholas M. Odhiambo

Read the article


Marco Tronzano

Read the article

Genoa Chamber of Commerce
Economia Internazionale / International Economics

< Back

Corresponding author

Sheilla NYASHA, Department of Economics, University of South Africa, Pretoria, South Africa


Yvonne GWENHURE, University of South Africa, Dept of Economics, Pretoria South Africa

Nicholas M. ODHIAMBO, University of South Africa, Dept of Economics, Pretoria South Africa

The Dynamic Causal Linkage between Financial Development and Economic Growth: Empirical Evidence from Ethiopia




This paper investigates the dynamic causal linkage between bank-based financial development and economic growth in Ethiopia during the period from 1980 to 2014. The study includes savings and investment as intermittent variables in an attempt to address the omission of variable bias – thereby creating a multivariate Granger-causality model. Using the newly developed autoregressive distributed lag bounds testing approach to cointegration and the error-correction model-based causality model, the study finds that in the short run, both financial development and economic growth Granger-cause each other in Ethiopia. However, in the long run, there is unidirectional Granger-causality from bank-based financial development to economic growth. The study, therefore, recommends that policies aimed at enhancing both economic growth and financial development should be pursued in the short run. However, in the long run, policies that target the development of the banking sector should be prioritised in order to ensure a sustained growth path.

JEL classification

G20, O10


Ethiopia, Bank-Based Financial Development, Economic Growth, Granger-Causality


  1. Introduction
  2. Bank-based financial development and economic growth in Ethiopia: an overview
  3. Literature review
  4. Estimation techniques
  5. Econometric analysis and empirical findings
  6. Conclusion


Abu-Bader, S. and A.S. Abu-Qarn (2008), “Financial Development and Economic Growth: The Egyptian Experience”, Journal of Policy Modelling, 30(5), 887-898.
Acaravci, S.A., I. Ozturk and A. Acaravci (2009), “Financial Development and Economic Growth: Literature Survey and Empirical Evidence from Sub-Saharan African Countries”, South African Journal of Economic and Management Sciences NS, 12(1), 11-27.
Agbetsiafa, D.K. (2003), “The Finance Growth Nexus: Evidence from Sub-Saharan Africa”, International Advances in Economic Research, 9(2), 172-189.
Ahmed, A.D. and A.N.M. Wahid (2011), “Financial Structure and Economic Growth Link in African Countries: A Panel Cointegration Analysis”, Journal of Economic Studies, 38(3), 331-357.
Akinboade, O.A. (1998), “Financial Development and Economic Growth in Botswana, a Test for Causality”, Savings and Development, 3(22), 331-348.
Akinlo, A.E. and T. Egbetunde (2010), “Financial Development and Economic Growth: The Experience of 10 Sub-Saharan African Countries Revisited”, The Review of Finance and Banking, 2(1), 17-28.
Ang, J.B. (2008), “What are the Mechanisms Linking Financial Development and Economic Growth in Malaysia?”, Economic Modelling, 25(1), 38-53.
Ang, J.B. and W.J. McKibbin (2007), “Financial Liberalization, Financial Sector Development and Growth: Evidence from Malaysia”, Journal of Development Economics, 84(1), 215-233.
Beck, T. and R. Levine (2002), “Stock Markets, Banks, and Growth: Panel Evidence”, Journal of Banking & Finance, 28(3), 423-442.
Calderon, C. and L. Liu (2003), “The Direction of Causality Between Financial Development and Economic Growth”,  Journal of Development Economics, 72(1), 321-334.
Caselli, F., G. Esquivel and F. Lefort (1996), “Reopening the Convergence Debate: A New Look at Cross-Country Growth Empirics”, Journal of Economic Growth, 1(3), 363-389.
Christopoulos, D.K. and E.G. Tsionas (2004), “Financial Development and Economic Growth: Evidence from Panel Root and Cointegration Tests”, Journal of Development Economics, 73(1), 55-74.
Duasa, J. (2007), “Determinants of Malaysian Trade Balance: An ARDL Bounds Testing Approach”, Journal of Economic Cooperation, 28(3), 21-40.
Engle, R.F. and C.J. Granger (1987), “Cointegration and Error-Correction Representation, Estimation and Testing”, Econometrica, 55(2), 251-278.
Esso, L.J. (2010), “The Savings-Investment Relationship: Cointegration and Causality Evidence from UEMOA Countries”, International Journal of Economics and Finance, 2(1), 174-181.
Ghirmay, T. (2004), “Financial Development and Economic Growth in Sub-Saharan African Countries: Evidence from Time-Series Analysis”, African Development Review, 1(3)6, 415-432.
Gokmenoglu, K.K., M.Y. Amin and N. Taspinar (2015), “The Relationship Among International Trade, Financial Development and Economic Growth: The Case of Pakistan”, Procedia Economics and Finance, 25(1), 489-496.
Goldsmith, R.W. (1969), Financial Structure and Development, Yale University Press: New Haven.
Graff, M. (1999), “Financial Development and Economic Growth: A New Empirical Analysis”, Dresden Discussion Paper Series in Economics, Nr. 5/99.
Graff, M. (2002), “Causal Links Between Financial Activity and Economic Growth: Empirical Evidence from a Cross-Country Analysis, 1970-1990”, Bulletin of Economic Research, 54(2), 119-133.
Gungor, H., S. Ciftcioglu and M. Balcilar (2014), “Does Financial Development Increase Private Savings? The Case of Turkey”, International Journal of Business and Social Science, 5(2), 36-47.
Gurley, J. and E. Shaw (1967), “Financial Structure and Economic Development”, Economic Development and Cultural Change, 15(3), 257-268.
Hamdi, H., A. Hakimi and R. Sbia (2013), “Multivariate Granger-Causality between Financial Development, Investment and Economic Growth: Evidence from Tunisia”, Journal of Quantitative Economics, 11(1&2), 111-129.
Ho, S.Y. and N.M. Odhiambo (2013), “Banking Sector Development and Economic Growth in Hong Kong: An Empirical Investigation”, International Business & Economics Research Journal, 12(5), 519-532.
Hsueh, S., Y. Hu and C. Tu (2013), “Economic Growth and Financial Development in Asian Countries: A Bootstrap Panel Granger-Causality Analysis”, Economic Modelling, 32(3), 294-301.
Hussain, F. and D.K. Chakraborty (2012), “Causality between Financial Development and Economic Growth: Evidence from an Indian State”, The Romanian Economic Journal, 15(45), 27-48.
Ibrahim, M.H. (2007), “The Role of the Financial Sector in Economic Development: The Malaysian Case”, International Review of Economics, 54(4), 463-483. 
IMF (1994), Ethiopia: Recent Economic Developments, International Monetary Fund, Washington, DC.
IMF (2016), World Economic Outlook Database. [Online] Available from <> [Accessed 25 February 2016]. 
Jedidia, K.B., T. Boujelbène and K. Helali (2014), “Financial Development and Economic Growth: New Evidence from Tunisia”, Journal of Policy Modeling, 36(5), 883-898.
Johansen, S. (1988), “Statistical Analysis of Cointegration Vectors”, Journal of Economic Dynamics and Control, 12(2-3), 231-254.
Johansen, S. (1991), “Estimation and Hypothesis testing of Cointegration vectors in Gaussian Vector Autoregressive Models”, Econometrica, 59(6), 1551-1580.
Johansen, S. and K. Juselius (1990), “Maximum Likelihood Estimation and Inference on Cointegration with Applications to the Demand for Money”, Oxford Bulletin of Economics and Statistics, 52(2), 169-210.
Jung, W.S. (1986), “Financial Development and Economic Growth: International Evidence”, Economic Development and Cultural Change, 35(2), 333-346.
Kar, M., S. Nazlioqlu and H. Aqir (2011), “Financial Development and Economic Growth Nexus in the MENA Countries: Bootstrap Panel Granger-Causality Analysis”, Economic Modelling, 28(1-2), 685-693.
King, R.G. and R. Levine (1993a), “Finance and Growth: Schumpeter Might be Right”, Quarterly Journal of Economics, 108 (3), 713-737.
King, R.G. and R. Levine (1993b), “Finance, Entrepreneurship, and Growth: Theory and Evidence”, Journal of Monetary Economics, 32(3), 513-542.
Kumar, R.R., P.J. Stauvermann, N. Loganathan and R.D. Kumar (2015), “Exploring the Role of Eenergy, Trade and Financial Development in Explaining Economic Growth in South Africa: A Revisit”, Renewable and Sustainable Energy Reviews, 52, 1300-1311.
Levine, R. (1997), “Financial Development and Economic Growth: Views and Agenda”, Journal of Economic Literature, 35(2), 688-726.
Loizides, J. and G. Vamvoukas (2005), “Government Expenditure and Economic Growth: Evidence from Trivariate Causality Testing”, Journal of Applied Economics, 8(1), 125-152.
Lucas, R. (1988), “On the Mechanism of Economic Development”, Journal of Monetary Economics, 22(1), 3-42.
Majid, M.S.A. (2008), “Does Financial Development Matter for Economic Growth in Malaysia? An ARDL Bound Testing Approach”, Journal of Economic Cooperation, 29(1), 61-82.
Mandishekwa, R. (2014), “Causality between Economic Growth and Investment in Zimbabwe”, Journal of Economics and Sustainable Development, 5(20), 136-140.
McKinnon, R.I. (1973), Money and Capital in Economic Development, The Brookings Institution: Washington, DC.
Narayan, P.K. and R. Smyth (2004), “Temporal Causality and the Dynamics of Exports, Human Capital and Real Income in China”, International Journal of Applied Economics, 1(1), 24-45.
Narayan, P.K. and R. Smyth (2008), “Energy Consumption and Real GDP in G7 Countries: New Evidence from Panel Cointegration with Structural Breaks”, Energy Economics, 30(5), 2331-2341.
NBE (2015), Quarterly Bulletin. Volume 32, Quarter 4. Ethiopia, National Bank of Ethiopia.
NBE (2016a), About National Bank of Ethiopia, [Online] Available from <> [Accessed 26 April 2016].
NBE (2016b), Quarterly Bulletin (various issues), [Online] Available from <> [Accessed 16 February 2016].   
Nwosa, P.I., A.M. Agbeluyi and O.M. Saibu (2011), “Causal Relationships between Financial Development, Foreign Direct Investment and Economic Growth. The Case of Nigeria”, International Journal of Business Administration, 2(4), 93-97.
Odedokun, M.O. (1996), “Alternative Econometric Approaches for Analysing the Role of the Financial Sector in Economic Growth: Time-Series Evidence from LDCs”, Journal of Development Economics, 50(1), 119-146.
Odhiambo, N.M. (2004), “Is Financial Development Still a Spur to Economic Growth? Causal Evidence from South Africa”, Savings and Development, 28(1), 47-62.
Odhiambo, N.M. (2005), “Financial Development and Economic Growth in Tanzania: A Dynamic Causality Test”, African Finance Journal, 7(1), 1-7.
Odhiambo, N.M. (2008), “Financial Development in Kenya: A Dynamic Test of the Finance-Led Growth Hypothesis”, Economic Issues, 13(2), 21-36.
Odhiambo, N.M. (2009a), “Interest Rate Liberalization and Economic Growth in Zambia: A Dynamic Linkage”, African Development Review, 21(3), 541-557.
Odhiambo, N.M. (2009b), “Finance-Growth Nexus and Inflation Dynamics in Kenya: An Empirical Investigation”, Savings and Development, 33(1), 7-25.
Odhiambo, N.M. (2011), “Financial Intermediaries Versus Financial Markets: A South African Experience”, International Business and Economics Research Journal, 10(2) 77-84.
Omri, A., S. Daly, C. Rault and A. Chaibi (2015), “Financial Development, Environmental Quality, Trade and Economic Growth: What Causes What in MENA Countries?”, Energy Economics, 48, 242-252.
Patrick, H.T. (1966), “Financial Development and Economic Growth in Underdeveloped Countries”, Economic Development and Cultural Change, 14(1), 174-189.
Peia, O. and K. Roszbach (2015), “Finance and Growth: Time Series Evidence on Causality”, Journal of Financial Stability, 19, 105-118.
Perron, P. (1997), “Further Evidence on Breaking Trend Functions in Macroeconomic Variables”, Journal of Econometrics, 80(2), 355-385.
Pesaran, M.H. and Y. Shin (1999), An Autoregressive Distributed Lag Modelling Approach to Cointegration Analysis, in: S. Storm (Ed.), “Econometrics and Economic Theory in the 20th Century”, The Ragnar Frisch Centennial Symposium, Cambridge University Press, Chapter 11, 1-31.
Pesaran, M.H., Y. Shin and R. Smith (2001), “Bound Testing Approaches to the Analysis of Level Relationship”, Journal of Applied Econometrics, 16(3), 174-189.
Pradhan, R. (2011), “Financial Development, Growth and Stock Market Development: The Trilateral Analysis in India”, Journal of Quantitative Economics, 9(1), 134-145.
Rachdi, H. and H.B. Mbarek (2011), “The Causality between Financial Development and Economic Growth: Panel Data Cointegration and GMM System Approaches”, International Journal of Economics and Finance, 3(1), 143-151.
Robinson, J. (1952), The Generalisation of the General Theory, in: “The Rate of Interest and Other Essays”, McMillan: London.
Romer, P. (1986), “Increasing Returns and Long-Run Growth”, Journal of Political Economy, 94(5), 1002-1037.
Schumpeter, J.A. (1911), The Theory of Economic Development, Harvard University Press: Cambridge, MA.
Shabri, M. and A. Majid (2008), “Does Financial Development Matter for Economic Growth in Malaysia? An ARDL Bound Testing Approach”, Journal of economic Cooperation, 29(1), 61-82.
Shan, J. and Q. Jianhong (2006), “Does Financial Development ‘Lead’ Economic Growth? The Case of China”, Annals of Economics and Finance, 7(1), 197-216.
Shan, J.Z. and A.G. Morris (2002), “Does Financial Development ‘Lead’ Economic Growth”, International Review of Applied Economics, 16(2), 153-168.
Shan, J.Z., A.G. Morris and F. Sun (2001), “Financial Development and Economic Growth: An Egg and Chicken Problem?”, Review of International Economics, 9(3) 443-454.
Shaw, E.S. (1973), Financial Deepening in Economic Development, Oxford University Press: New York.
Simwaka, K., T. Munthali, A. Chiumia and G. Kabango (2012), “Financial Development and Economic Growth in Malawi: An Empirical Analysis”, Banks and Bank Systems, 7(3), 85-96.
Sinha, D. and J. Macri (2001), “Financial Development and Economic Growth: The Case for Eight Asian Countries”, Munich Personal RePEc Archive, Paper No. 18297. 
Solow, R. (1956), “A Contribution to the Theory of Economic Growth”, Quarterly Journal of Economics, 70(1), 65-94.
Toda, H.Y. and T. Yamamoto (1995), “Statistical Inference in Vector Auto Regressions with Possibly Integrated Processes”, Journal of Econometrics, 66(1-2), 225-250.
UNCTAD (2016), Economic Trends, [Online] Available from <> [Accessed 16 February 2016]. 
Wood, A. (1993), “Financial Development and Economic Growth in Barbados: Causal Evidence”, Savings and Development, 17 (4), 379-390.
Zang, H. and Y.C. Kim (2007), “Does Financial Development Precede Growth? Robinson and Lucas Might Be Right”, Applied Economic Letters, 14(1), 15-19.
Zwedu, G.A. (2014), “Financial Inclusion, Regulation and Inclusive Growth in Ethiopia”, Oversees Development Institute Working Paper No. 408.