Abstract

The importance of financial development on the economic growth of a given country has been highly debated among various economists since the origin of the finance-growth nexus. The supply leading hypothesis asserts that an efficient and burgeoning financial system enables the diffusion of economic growth (Bagehot, 1873; Schumpeter, 1911; McKinnon, 1973; Levine & Zervos, 1998), while the demand leading hypothesis argues that finance responds passively to economic growth (Robinson, 1952; Lucas, 1988). The purpose of this study is to examine the extent to which financial development impacts the economic growth of Nepal. I conduct a
dynamic estimation of the impacts of financial development using an Error Correction Model (ECM), drawing on the theoretical framework and empirical techniques from Levine & Zervos (1998), Gautam (2015), Paudel & Acharya (2020). The findings of this study suggest that financial development has a positive impact on economic growth in the long-run, supporting the supply led hypothesis that financial development is a driver of economic growth, and suggesting that financial development is a long-term process (Christopoulos & Tsionas, 2004). As
such, while this study centers exclusively on Nepal, it works to additionally provide a guideline for how similar time series analysis can be conducted across other developing countries to assess whether financial development is a catalyst for economic growth. Given the central bank’s recent initiative to reduce the number of financial institutions in Nepal, this study recommends Nepalese policymakers to carefully examine whether financial sector consolidation is conducive for future economic growth.

Advisor

Krause, Brooke

Department

Economics

Disciplines

Growth and Development

Keywords

financial development, financial deepening, finance-growth nexus, economic growth, Nepal, error correction model 1

Publication Date

2024

Degree Granted

Bachelor of Arts

Document Type

Senior Independent Study Thesis

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