An Empirical Investigation around the Finance-Growth Puzzle in China : With a particular focus on causality and efficiency considerations

Abstract

The paper explores a coherent perspective for understanding the multifaceted puzzle of China’s financial development. Specifically, it tests competing finance-growth nexus hypotheses using Granger causality tests in a VECM framework for China over the period 1980–2002. The empirical results support a complex set of bidirectional causality between the financial development proxies and economic growth variable. Additionally, bidirectional causality shows the Chinese financial system to be more driven by and closely aligned with real sector activities than exposed to speculative finance. Study findings have several policy implications. Notably, the development of financial institutions should not be emphasized unilaterally. Rather, attention should be given to the complementary and coordinated development of financial reforms and changes in other areas.