The Causality Between Financial Development and Economic Growth: The Case of Turkey

Abstract

This study investigates the direction of the causal relationship between the financial development and economic growth in Turkey. The Granger non-causality tests are applied for two different conditions (non-stationary and non-cointegrated variables, and nonstationary and cointegrated variables) using five different proxies for financial development. For the series, which have a unit root and not lead to a cointegrating relationship, the traditional Granger non-causality test is applied in a vector auto regression (VAR) context, after making the non-stationary series stationary. When the variables are non-stationary, integrated of the same order and lead to a cointegrating relationship, Granger non-causality test is applied using the cointegration and the vector error correction methodology (VECM). The empirical findings in the paper suggest that, in the short-run, except for one of the proxies used, causality runs from financial development to economic growth. In the long-run, the test results in the context of VECM for the coefficients of all cointegrated series show a two way causality between financial deepening and economic growth. In the empirical analyses, time-series data was used for the period 1970-2001.

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