British Journal of Economics, Management & Trade

2(3): 265-278, 2012 SCIENCEDOMAIN international www.sciencedomain.org

Financial Development and Economic Growth: Is Schumpeter Right?

Michael Adusei1*
1

Department of Accounting and Finance, Kwame Nkrumah University of Science and Technology, Kumasi-Ghana. Authors contribution MA solely did this study.

Case Study

Received 23 July 2012 st Accepted 1 September 2012 th Published 24 September 2012

rd

ABSTRACT
Aim: The aim of the study is to test the validity of Schumpeters prediction that finance promotes growth using annual time series data from South Africa. Study Design: Case Study Place and Duration of Study: South Africa. Time series data ranging from 1965 to 2010. Methodology: The study employs unit root testing, co-integration analysis, Fully Modified Ordinary Least Squares (FMOLS) regression, Two-Stage Least Squares (2SLS) regression, Error Correction Model and Pairwise Granger Causality test technique to analyze annual time series data from South Africa. Two measures of financial development are used: domestic credit as a share of GDP measuring the degree of financial intermediary services; and broad money supply as a share of GDP measuring the overall size of the financial intermediary sector. Control variables included in the model are inflation, size of government, openness of the South African economy, and a dummy variable accounting for financial reforms that began in South Africa in the 1980s. Results: Contrary to the prediction of Schumpeter that finance promotes growth, the empirical results suggest that financial development does not promote economic growth both in the short run and in the long run. The Pairwise Granger Causality test result supports the assertion that there is a unidirectional causality from financial development to economic growth in South Africa. Conclusion: The paper concludes that Schumpeter may not be right in theorizing that finance promotes economic growth.

____________________________________________________________________________________________ *Corresponding author: Email: madusei10@yahoo.com;

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Keywords: South Africa; financial development; economic growth; inflation; size of government.

1. INTRODUCTION
Theoretically, Schumpeter (1911) submits that a well-developed financial system catalyzes technological innovation and economic growth through the provision of financial services and resources to those entrepreneurs who have the highest probability of successfully implementing innovative products and processes. Empirically, the permeating thesis emblazoned across most of the empirical findings on finance-growth nexus is that a more developed financial sector provides a fertile ground for the allocation of resources, better monitoring, fewer information asymmetries and economic growth (Shen and Lee, 2006). The remarkable writings of Goldsmith (1969), Mckinnon (1973) and Shaw (1973) have also contributed significantly to this view. However, it is instructive to point out that some scholars have maintained that finance may not be a significant determinant of economic growth and development (Robinson, 1952; Lucas, 1988; Stern, 1989). Evidence abounds that there is a relationship between finance and economic growth but the direction of causality has remained the bone of contention. In summary, three schools of thought are identifiable in the extant literature: supply-leading response school of thought which argues that financial development leads to economic growth pioneered by Schumpeter (1911) and confirmed by notable studies such as Rajan and Zingales (1998), Levine et al. (2000) and Bittencourt (2012); demand-leading school of thought supported by studies such as Odhiambo (2004), Liang and Teng (2006) and Zang and Kim (2007) and Odhiambo (2008) which argues that growth leads to financial development; and bidirectional school of thought grounded by the studies such as Wood (1993), Demetriades and Hussein (1996), Akinboade (1998), Luintel and Khan (1999), Rousseau and Vuthipadadorn (2005) and Apergis et al. (2007) which submits that there is a bidirectional causality between financial development and economic growth. The debate on which part of the financial sector positively impacts growth is yet to be laid to rest. Arestis et al. (2001) report that although both banks and stock markets may be able to promote economic growth, yet the effects of the former are more influential. However, Shen and Lee (2006) provide evidence that only stock market development has positive effects on growth and that banking development has an unfavorable, if not negative, effect on growth. Striking a chord with this finding, Saci et al. (2009) following Levine et al. (2000), Rousseau and Wachtel (2000); Beck and Levine (2002) and Yao (2006) use annual panel data for 30 developing countries, utilize methods-of-moments techniques for dynamic models and find that while the stock market variables in their model are positively and significantly related to growth, their presence in the model results in the standard banking sector variables (credit to the private sector and liquid liabilities) having negative effects on growth. Demirhan et al. (2011) suggest that the development of stock market and banking sector causes economic growth, the contribution of the banking sector to economic growth has been larger than that of the stock market. There is a burgeoning notion that conditions are a significant factor in the determination of the finance-growth nexus. In support of this notion, Rousseau and Wachtel (2001) report that in countries with high inflation, the effects of finance on growth weaken. This has been corroborated by Rioja and Valev (2004) who, after studying 74 countries at different stages 266

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of development, employing generalized method of moments (GMM) estimation, conclude that evidence of an influence of financial development upon economic growth is highly dependent on the level of development of the financial sector of a particular country or group of countries. They intimate that whereas at low levels of financial development the effect on growth is mixed, at an intermediate level of financial development the effect is positive and powerful. However, this positive impact plummets for countries at a very high level of financial development, although it does remain positive (Rioja and Valev, 2004). Bittencourt (2012) emphasizes the importance of a more open, competitive financial sector in transmitting financial resources to entrepreneurs as well as the relevance of macroeconomic stability (in terms of low inflation rates) and all the institutional framework that it encompasses (central bank independence and fiscal responsibility laws), as a necessary prerequisite for financial development and consequently for continued growth and prosperity in Latin America. The current study has been motivated by two factors. One, the realization that conditions are a significant factor in the determination of the finance-growth nexus which presupposes that researchers should shift attention from cross-sectional studies in which countries that are at different stages of financial and economic development are lumped up to country-specific studies which address the country-specific effects. Indeed, Arestis and Demetriades (1997) maintain that cross-section regressions are not always reflective of individual country circumstances, especially of financial institutions, policy regime and effectiveness of governance. Two, the observation that there is low evidence on the finance-growth nexus in Africa. Whereas there is some considerable measure of evidence on the finance-growth nexus in other parts of the world especially the developed world, the same cannot be said about Africa. Interestingly, the few studies that have been done in Africa have produced mixed results. In Ghana, Quartey and Prah (2008) report that whereas there is some evidence in support of demand-following hypothesis when growth in broad money to GDP ratio is used as a measure of financial development, there is no significant evidence to support either the supply-leading hypothesis or demand-following hypothesis when growth in domestic credit to GDP ratio, private credit to GDP ratio and private credit to domestic credit ratio are used as proxies for financial development. Odhiambo (2010) investigates the dynamic causal relationship between financial development, investment and economic growth in South Africa employing ARDL-Bounds testing procedure and reports that economic growth has a formidable influence on the financial sector development. However, Ghali (1999) reports from Tunisia that the persistence of high information and transaction costs coupled with lack of a competitive financial sector casts doubts on the existence of a positive impact of finance on economic growth in developing economies. Consequently, the current study investigates the finance-growth nexus in South Africa with annual time series data spanning from 1965-2010. It addresses two concerns: countryspecific and low-evidence-in-Africa concerns. The choice of South Africa has been motivated by the fact that the country has well-developed financial, legal, communications, energy and transport sectors; a stock exchange that ranks among the 10 largest in the world; and a modern infrastructure supporting an efficient distribution of goods to major urban centers throughout the region (www.umsl.edu/services/govdocs/wofact2006/geos/sf.html#Econ). Thus, the findings of the study could guide policy direction in other African countries. The current study differs from the recent one done by Odhiambo (2010) in South Africa in three distinct respects. One, it uses more comprehensive measures of financial development 267

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(domestic credit as a share of GDP and broad money supply as a share of GDP). Two, it uses longer time series data. Three, whereas Odhiambo (2010) uses investment as an intermittent variable in his trivariate causality framework without accounting for a structural break, the current study uses multivariate framework and controls for a structural break (the financial liberalization policy that began in 1980s) that could affect the finance-growth nexus in South Africa. The paper answers one nagging question: Does financial development stimulate economic growth as predicted by Schumpeter? The rest of the paper is structured as follows. The next section discusses the methodology adopted for the study followed by the results and discussion section. The conclusion section ends the paper.

2. METHODOLOGY 2.1 Model

The paper utilizes log-linear modeling specification. We use the natural logarithm of all variables because according to Sarel (1996), the log transformation eliminates, at least partially, any asymmetry in the data. The log-linear functional form with Autoregressive AR (1) term, accounting for serial correlation, is given as follows: LGDPPC= 1 + 2 LDIS + 3LOSFIS+ 4LOPEN+ 5 LINFL +6LGS + t LGDPPC=1 + 2 LDIS+ 3LOSFIS+4LOPEN+ 5 LINFL +6LGS +7FR+t t =t -1+t Where LGDPPC = Log of per capita GDP LDIS= Log of degree of financial intermediary services LOSFIS= log of overall size of the financial intermediary sector LOPEN= Log of economic openness of South Africa LINFL= Log of inflation LGS= Log of size of government FR shows Financial Reforms (D = 1 from 1980 onwards, otherwise D = 0). t= stochastic error term t =t -1+t = Autoregressive AR (1) term applicable to (1) and (2) We include a dummy variable to account for the effect of financial reforms in South Africa that began in 1980s on the relationship between financial development and economic growth. Consequently, we estimate two equations: equation 1 does not allow for the effect of financial reforms whilst equation 2 allows for it. Annual time-series data covering the period 1965-2010 gathered from World Development Indicators (WDI) (http://www.worldbank.org) have been used. The use of time series is tenable because, as Jalil and Ma (2008) observe, time series analyses provide an opportunity to study the causality pattern. (1) (2) (3)

2.2 Justification for Variables

Following Odhiambo (2010), we use log of real per capita GDP as proxy for economic growth. Two measures of financial development are used. The level of financial services is

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commonly measured by domestic credit to the private sector as a percentage of GDP (e.g. King and Levine, 1993a; Levine and Zervos, 1996; Beck et al., 2000; Levine et al., 2000). However, we strongly believe that focusing only on the credit to the private sector is insufficient especially in Africa where governments play pivotal roles in providing the needed infrastructure for economic growth and development. In discharging their pivotal roles, governments may be compelled to borrow from the financial markets. We, thus, use total domestic credit provided by the banking sector as a percentage of GDP instead of credit to the private sector because we want to capture the full degree of intermediation in the South African economy. To measure the overall size of the financial intermediary sector in South Africa, broad money (M3) as a share of GDP is used (e.g. Goldsmith, 1969; King and Levine, 1993a; Rousseau and Wachtel, 2000; Rioja and Valev, 2004; Levine et al., 2000). Broad money consists of currency held outside the bank system plus interest-bearing total deposit liabilities of banks and other financial institutions. Inflation has been identified as one of the most important determinants of growth (Ghosh and Phillips, 1998). Inflation is, thus, included as a control variable. The literature stresses the importance of openness to international trade, both as a means of affecting the transfer of technical progress and as an engine of growth (King and Levine, 1993a; Ghosh and Phillips, 1998; Zang and Kim, 2007, Saci et al., 2009). Following Ghosh and Phillips (1998), we use the ratio of exports plus imports to GDP as a control variable in the model. Studies on finance-growth nexus have included size of government consumption as a percentage of GDP as a control variable (e.g. Shabbaz, 2009; Saci et al., 2009; Zang and Kim, 2007). We, thus, include this variable as a control variable. The definitions of the variables are given in Table 1. Table 1. Definition of variables Variable Log of GDP per Capita (LGDPPC) Log of the degree of intermediary services (LDIS) Log of overall size of the financial intermediary sector (LOSFIS) Log of openness of the South African Economy (LOPEN) Log of inflation (LINFL) Definition GDP per capita is gross domestic product divided by midyear population. Domestic credit provided by the banking sector* as a share of GDP Broad money supply (M3) as a share of GDP Total exports plus total imports divided by GDP (X+M/GDP) The annual percentage change in the cost to the average consumer of acquiring a basket of goods and services that may be fixed or changed at specified intervals. General government final consumption expenditure as a share of GDP Dummy variable. D=1 from 1980 onwards; Otherwise D=0

Log of Government Spending (LGS) Financial reforms (FR)

*Domestic credit provided by the banking sector includes all credit to various sectors on a gross basis, with the exception of credit to the central government, which is net. The banking sector includes monetary authorities and deposit money banks, as well as other banking institutions where data are available (including institutions that do not accept transferable deposits but do incur such liabilities as time and savings deposits).

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2.3 Analytical Framework

Fully Modified Ordinary Least Squares (FMOLS) and Error Correction Method (ECM) have been employed to investigate the long-run relationship and short-run relationship between financial development and economic growth respectively. 2.3.1 FMOLS Estimation for Long-Run Relationship Originally designed by Phillips and Hansen (1990), Pedroni (2000) and Phillips and Moon (1999) to provide optimal estimates of cointegration regressions, FMOLS uses kernel estimators of the nuisance parameters that affect the asymptotic distribution of the OLS estimator (Shahbaz, 2009). The technique achieves asymptotic efficiency by modifying the least squares to account for serial correlation effects, and tests for the endogeneity in the regressors those results from the existence of cointegrating relationships (Phillip and Hansen, 1990; Shahbaz, 2009). For this technique to be effective in estimating long-run parameters, the analyst must satisfy the condition that there exists a cointegration relation between a set of I (1) variables. Thus, we have to establish the presence of the unit root and then test the cointegrating relationship. To do this, the study employs Augmented Dickey-Fuller (ADF) and PhillipsPerron Unit Root testing techniques usually employed to investigate the degree of integration of variables. According to Engle and Granger (1987) when all the variables under investigation are non-stationary at level, but stationary at 1st difference, this permits the use of Johansen cointegration technique. In economics, two variables will be cointegrated if they have a long-term relationship between them (Shahbaz, 2009). According to Pesaran et al. (2001), the Johansen (1991 and 1995)s approach can also be applied to a set of variables containing possibly a mixture of I (0) and I (1) variables. The model to achieve this is called Error Correction Model (ECM) which is generally given as: -1 Zt = Z t-1 +0 +t (4) i=1 This can also be standardized as follows: -1 Zt = Z t-k - 1 Zt-k +1 +t (5) i=1 Where, i = -I+1 +2 .....+ t I=1,2,3,k-1 and =I-1-2 .k and p represents total number of variables considered in the model. The matrix captures the long-run relationship between the P variables (Shahbaz, 2009).

3. RESULTS AND DISCUSSION

The Augmented Dickey-Fuller (ADF) and Phillips-Perron Unit Root testing techniques have been used to test the order of integration of the individual variables. Tables 2 and 3 display the results of these tests. As can be seen the results of both techniques reveal that all the variables are stationary at their 1st difference form.

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Table 2. Unit-Root Estimation at level Variables ADF test at level Trend and Probability intercept -2.424099 0.3627 -1.804663 0.6851 -0.921557 0.9440 -2.174527 0.4917 -1.751729 0.7112 -2.112729 0.5249 Phillips-perron test at level Trend and Probability Bandwidth intercept -2.058214 0.5543 2 -1.584172 0.7828 6 -0.449121 0.9824 2 -2.284549 0.4334 4 -1.506168 0.8128 13 -1.807344 0.6846 7
st

Lags 1 0 1 0 0 0

LGDPPC LDIS L OSFIS LOPEN LGS LINFL

Table 3. Unit-Root Estimation at 1 difference Variables ADF test at level Trend and Probability intercept 4.749796 0.0021 -8.469852 0.0000 -4.454506 0.0049 -5.720879 0.0001 -5.529424 0.0002 -5.346188 0.0004 Phillips-perron test at 1 difference Trend and Probability Bandwidth intercept -4.445636 0.0050 5 -11.90510 0.0000 19 -4.250960 0.0085 4 -5.789890 0.0001 13 -9.439708 0.0000 43 -9.157169 0.0000 20
st

Lags 0 0 0 0 0 3

LGDPPC LDIS L OSFIS LOPEN LGS LINFL

The results produced above lend credence to the use of FMOLS, the most advanced technique for the investigation of long-run relationships among the variables in our model (Shahbaz, 2009). Lag length of VAR model is selected at 2 on the basis of Schwarz criterion and Likelihood Ratio. The results of the Unit-Root estimations satisfy the condition for performing Johansen Cointegration Test. From Table 5, it can be seen that for the null hypothesis of no cointegration (R=0) among the variables in the model, the Trace Test statistic is obtained at 159.8296 which is above 1% and 5% critical values as shown by the reported probability values. This, therefore, rejects the null hypothesis of R0 in favor of the alternate hypothesis R=1. In the same vein, for the null hypothesis R=1, the Trace Test is obtained at 85.76882 which is above 1% and 5% critical values, thus rejecting the hypothesis R1 in favor of the alternate hypothesis R=2. It is, therefore, empirically tenable for us to conclude that there are 2 cointegrating relationships among economic growth, degree of intermediary services, overall size of the financial intermediary sector, inflation, openness of the South African economy and size of government in South Africa. The Maximum Likelihood Test results also reported in Table 4 support the conclusion that there are 2 cointegration relationships among the six variables in the model. The presence of cointegration relationships among the six variables permits the estimation of our models.

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Table 4. Johansen and Maximum Likelihood test for cointegration Hypotheses Trace Test R=0 R1 R2 R3 R4 R5 159.8296 85.76882 40.94546 19.37217 8.399755 0.018906 5% critical value 95.75366 69.81889 47.85613 29.79707 15.49471 3.841466 Prob. Value ** .000 .002 .19 .47 .42 .90 Hypotheses Max. Eigen Value R=0 74.06081 R=1 44.82336 R=2 21.57329 R=3 10.97242 R=4 8.380849 R=5 0.018906 5% critical value 40.07757 33.87687 27.58434 21.13162 14.26460 3.841466 Prob. Value .000 .003 .24 .65 .34 .89

Note: ** Implies McKinnon-Haug-Michelis (1999) p-values

Table 5 reports the estimation results of the two equations. As can be observed, the 2 adjusted R value of 0.96 in both equations indicates a tight fit. The F-statistic values of 175.128 and 150.6183 in equation 1 and equation 2 respectively statistically significant at P<.000, support the conclusion that the explanatory variables, jointly and significantly influence the economic growth of South Africa. A more developed financial sector provides a fertile ground for the allocation of resources, better monitoring, fewer information asymmetries and economic growth (Shen and Lee, 2006). Even within the financial sector, Demirhan et al. (2011) suggest that the development of stock market and banking sector causes economic growth; however, the contribution of the banking sector to economic growth has been larger than that of the stock market. Table 5 reports the long-run relationships between the independent variables and growth. It can be observed that the degree of financial intermediation proxied by domestic credit as a share of GDP has a strong, statistically significant negative relationship with economic growth in both equations which dovetails into the finding of De Gregorio and Guidotti (1995) who report a negative relationship between financial development and growth in 12 Latin American countries during the 195085 period as well as the finding of Shen and Lee (2006) who also provide evidence that banking development has an unfavorable, if not negative, effect on growth. Some of the characteristics of the financial systems in developing countries such as repeated and substantial interventions by the government leading to moral hazard problems, lack of a strong regulatory system, lax supervision, lack of skills in the banking personnel (De Gregorio and Guidotti, 1995; Brownbridge and Kirkpatrick, 2000) could explain this finding. Excessive borrowing by the government for unproductive ventures such as sponsoring flamboyant political campaigns that cripples credit to entrepreneurs with productive ideas could also account for this outcome. Persistence of high information and transaction costs coupled with lack of a competitive financial sector in South Africa could also explain this finding (Ghali, 1999). Over-lending or careless lending, could actually lead to a reduction in economic growth, due to its association with high, but less efficient, investment (De Gregorio and Guidotti, 1995). South Africa has a well-developed and highly sophisticated financial sector which is comparatively deeper than financial systems found in other Sub-Saharan African countries. However, few banks dominate the banking sector. For instance, by the mid 1990s, about 95% of the total assets of banks were in the books of only four banking groups, namely Amalgamated Bank of South Africa (ABSA), Standard Bank, First National Bank and Nedbank. The remaining 5% of the banks assets were, however, spread among some 27 local banks, 9 foreign-controlled banks, and a few branches of foreign banks as well as some mutual banks (Oldhiambo, 2010). Bittencourt (2012) emphasizes the importance of a more open, competitive financial sector in transmitting 272

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financial resources to entrepreneurs as a necessary prerequisite for financial development, and consequently for sustained growth and prosperity in Latin America. Lack of keen competition in the banking sector in South Africa might have created inefficiencies culminating in high lending rates with accompanying effect of low investment thereby negatively affecting economic growth. Perhaps the time has come for policymakers to encourage more productive participation in the sector by investors who have the requisite skills, experience and capital. Broad money supply which measures the overall size of the financial intermediary sector has been found to have a positive but statistically insignificant relationship with economic growth in both equations, meaning that as the size of the financial intermediary sector increases in South Africa its effect on economic growth is insignificant. This is understandable because if additional money supply is not spent productively it will have no impact on economic growth. Low industrialization resulting in high import dependency could partly account for this. Table 5 provides evidence that the openness of the South African economy measured by the ratio of exports plus imports to GDP has a negative statistically insignificant relationship with economic growth in both equations. Similarly, inflation proxied by annual consumer price index has a negative statistically insignificant relationship with economic growth in both equations. However, the size of government proxied by government consumption as a share of GDP has been found to have strong, negative statistically significant relationship with economic growth. This suggests to us that probably the South African government has been spending unproductively or has been spending more on imported goods which is undermining the growth of the country. The financial reforms in South Africa that began in 1980s have been found to have no significant effect on growth. This indicates the inability of the reforms to engender efficiency in the financial system in South Africa. This might be the case because the banking sector of the economy is dominated by few banks (Oldhiambo, 2010). Further liberalization of the sector that promotes healthy competition may be beneficial to economic growth of the country. Table 5. FMOLS regression results Variable Dependent Variable = LGDPC Coefficient Equation 1 Coefficient Equation 2 1 Constant -572.1963 (.995) 19.46855 (.000)*** LDIS -0.726256 (.05) -0.697073 (.066)* LOSFIS 0.531163 (.34) -0.252684 (.65) LOPEN -0.414834 (.120) -0.385950 (.161) LGS -0.741782 (.08) -0.841383 (.059)** LINFL -0.043836 (.46) -0.060614 (.31) FR -0.020108 (.88) 2 2 2 2 R =0.97, Adjusted R =0.96 R =0.97, Adjusted R =0.96 D-Watson=1.446964, F-stat=175.128(.000) D.Watson =1.508049, F-stat=150.6183 (.000) N=46
1

Figures in parentheses are probability figures. ***, ** and * represent 1%, 5% and 10% significance levels

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Our ECM analysis is based on equation 1. The results of the ECM version of FMOLS are presented in Table 6. The specification for this model is given as: n n n LGDPPC = 0+ 1 LDIS + 2 LOSFIS+ 3 OPEN j=0 j=0 j=0 n n + 4LINFL + 5LGS +CEt-1 +t j=0 j=0

(6)

It can be observed that all the variables except the log of the overall size of the financial intermediary sector (LOSFIS) have repeated their long run relationships with economic growth in the short run. LDIS has strong, negative statistically significant relationship with growth. Openness of the South African economy has a negative, statistically significant relationship with economic growth meaning in the short run as international trade between South Africa and her trade partners intensifies her economic growth is undermined. This smacks of import dependency of the South African economy. Policymakers should consider strengthening the nations international competitiveness by empowering the local industries to produce those imported goods they are capable producing locally. Size of government has maintained its statistically significant, negative relationship with economic growth in the short run. Inflation has also maintained its negative statistically insignificant relationship with economic growth. Table 6. Results of ECM version of FMOLS model Dependent variable: LGDPPC Variable Constant LDIS LOSFIS LOPEN LGS LINFL LGDPPC(-1) CRt 1
2 2
1

Coefficient Equation 1 1 0.050471 (.29) * -0.584184 (.09) -1.004796 (.13) * -0.508371 (.09) * -0.667098 (.07) -0.034770 (.502) 0.678457 (.013)** -0.858823 (.018)

R =0.507377, AdjustedR =0.371481 D-Watson=1.720042, F-stat=3.733569 (.004)

Figures in parentheses are probability figures. ***, ** and * represent 1%, 5% and 10% significance levels

The estimated value of equilibrium correction coefficient (CRt 1), 0.858823 which is significant at 5% level of significance, has the correct sign, and implies a fairly high speed of adjustment to equilibrium level after a shock. Approximately 86% of disequilibrium from the previous years shock returns to the long-run equilibrium in the current year.

3.1 Sensitivity Analysis

To check the robustness and specification bias of the estimated model, the FMOLS model of Equation 1 is estimated again using the Two-Stage Least Squares (2SLS) regression. Following Mubarik (2005), Granger causality tests between the explanatory variables used 274

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as instruments and growth are done to ascertain the lags of each variable to be included in the instrument list. The results of the 2SLS regression produced in Table 7 also suggest that financial development undermines economic growth in South Africa. Table 7. Results of two-stage least squares (2SLS) regression Dependent variable: LGDPPC Variable Constant LDIS LOSFIS LOPEN LGS LINFL
2 2

Coefficient Equation 1 1 16.88826 (.005)*** -1.469121 (.04)** 1.620462 (.15) -0.149189 (.79) -2.182804 (.028)** -0.099801 (.35)
1

R =0.918730, Adjusted R =0.902476 D-Watson=2.091280, F-stat=58.88441 (.000)

Instrument list: LGDPPC (-2)) LDIS (-6)) LOSFIS (-3)) LOPEN (-2)) LGS (-2)) LINFL (-3)) Figures in parentheses are probability figures. ***, ** and * represent 1%, 5% and 10% significance levels

To ascertain the direction of causality between financial development and economic growth we employ Pairwise Granger causality test technique. The results of this test are presented in Table 8. The results indicate that there is unidirectional causality from financial development to economic growth in South Africa, meaning financial development Grangercauses a fall in economic growth. Table 8. Pairwise Granger Causality test Lags: 2 Null hypothesis: LOG(DIS) does not Granger Cause LOG(GDPPC) LOG(GDPPC) does not Granger Cause LOG(DC) Obs 41 F-statistic 2.37368 0.90184 Probability 0.10756 0.41480

4. CONCLUSION
The paper investigates the relationship between financial development and economic growth. The empirical findings suggest that financial development does not promote economic growth both in the short run and in the long run. The Pairwise Granger Causality test results support the conclusion that in South Africa there is a unidirectional causality from financial development to economic growth. We are inclined to conclude that Schumpeter may not be right in theorizing that finance promotes economic growth.

ACKNOWLEDGEMENT
We acknowledge the contribution of KNUST School of Business of Kwame Nkrumah University of Science and Technology, Ghana, for providing funds for this study.

COMPETING INTERESTS
The author declares that no competing interests exist.

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