THE EFFECT OF FINANCIAL SECTOR DEVELOPMENT ON ECONOMIC GROWTH IN ETHIOPIA

Abstract

For a long period of time, most African economies have embarked on financial sector reforms. However, the empirical implications of these reforms have been divergent. This study investigates the impact of financial development on Ethiopian Economic growth by using time series data. This investigation was carried out using five common indicators of financial development (broad money, bank deposit/GDP, domestic credit to private sector, total domestic credit and private credit to total credit). Using the Auto Regressive Distributive Lag (ARDL) technique of estimation, it was discovered that there exist a short-run positive relationship between private investment, inflation rate, domestic credit to private sector and economic growth, a short run negative relationship between bank deposits, monetary mass m2, government expenditure and economic growth equally exists. However in the long run, Domestic credit to private sector credit, private investment inflation rate show a negative and significant impact on economic growth, and the long run effect of broad money supply and private credit to total credit is positive. This paper thus confirms the existence of a positive, negative and long-term impact of all the indicators of financial development on economic growth through bound test. It is therefore proposed that sufficient consideration and proper recognition such as provision of suitable financial reforms should be given to the financial sector in Ethiopia as a determinant of economic growth.