Does financial sector development cause investment and growth? empirical analysis of the case of Ghana

This article examines whether financial sector development has ‘caused’ economic growth and investment in Ghana between 1970 and 2007. As a proxy for financial sector development we use credit to private sector as per cent of GDP, bank liquid reserve – asset ratio and liquid liability as a per cent of GDP. We use GDP growth as a proxy for economic growth and real domestic investment for investment growth. The dynamic interactions between the growth of real Per capita Gross Domestic Product, real domestic investment and indicators of financial sector development are investigated using the concept of Granger Causality after testing for cointegration using Johansen techniques. The empirical results obtained by the Johansen method suggest the existence of a stable long-run relationship between growth rate and financial sector development indicators identified in the study. The same is true for investment growth. However, with the exception of credit to private sector where the causality runs from economic growth only, we find bidirectional causality between economic growth and financial sector development indicators. For investment growth, the causality runs from investment growth to financial sector indicators except between investment growth and Liquid liability where bidirectional causality recorded. The article establishes that, in an overall sense, economic and investment have ‘caused’ financial sector development in Ghana