Dynamics of Banking Performance Indicators and Economic Growth: long-Run Financial Development Nexus in Pakistan

Abstract

The purpose of this research is to understand the contributing role of banking industry in economic development process in long run as well as in short run dynamics empirically on the grounds of sound theoretical basis in Pakistan. This study explored the Neoclassical and endogenous mechanism between banking sector and economic growth by using the panel unit root tests, Panel co-integration tests, panel FMOLS and DOLS tests and panel VECM test for the period 2006 to 2016. Results indicate that Lending capability, Bank Investment and Innovation are identified as significant determinant. Further results indicate that there is an existence of positive bi-directional causality relationship between banking sector and economic growth. The long-run dynamics highlights the good policy measures of financial institutions and provides sound basis for positive economic growth and hence short run relationship indicates the consistency of economic policies in the economy. Finally the results conclude that policy makers should focus less on increasing the size of banking sector and more on improving its function as intermediary. The intense competition in banking sector may create problem in the sector itself. However, the rule of demand and supply may put the parameters into equilibrium for positive growth.