The role of financial development in growth and investment

This article decomposes the well-documented relationship between financial development and growth. We examine whether financial development affects growth solely through its contribution to growth in "primitives'' or factor accumulation rates or whether it also has a positive impact on total factor productivity growth. Our results suggest that indicators of financial development are correlated with both total factor productivity growth and investment. However, the indicators that are correlated with total factor productivity growth differ from those that encourage investment. In addition, many of the results are sensitive to the inclusion of country fixed effects, which may indicate that the financial development indicators are proxying for broader country characteristics.