Tourism and financial development in small states: Evidence from Caribbean countries

Tourism expenditure in Caribbean countries represents the single largest inflow of foreign exchange and is associated with a significant amount of international capital flows. Yet, the relationship between tourism and financial development (FD) has received scant attention in the academic literature. This article focuses on whether tourism promotes FD in Caribbean economies. We do so by using newly constructed data on tourism flows to the region during the period 1980-2013. We find that tourist expenditure, on average, has a positive and significant impact on various measures of FD. At our most conservative estimates, we find that by increasing tourism expenditures per capita by about $ 1200 (USD), depth in the financial system improves by about 10-15%, while efficiency increases by about 34%. Our results are robust to instrumental variables, system generalized method of moments, and limited information maximum likelihood estimation techniques as well as to a variety of measures of FD. Such findings may have important policy implications related to facilitating growth and development through an increase in efficiency in the system of FD.