Supply-leading or demand-following financial sector and economic development nexus: evidence from data-rich Indonesia

Mansur, Alfan and Nizar, Muhammad Afdi (2023): Supply-leading or demand-following financial sector and economic development nexus: evidence from data-rich Indonesia.

Abstract

Supply-leading theory predicts that the financial sector development precedes economic development while demand-following theory believes that the economy should develop, then the financial sector follows. This study exploits the financial sector and economic development relationship in a data-rich environment. Besides the depth, financial access and efficiency are also vital in the financial sector development. We employ a FAVAR model using 22 financial development indicators and 12 economic variables of the monthly Indonesian data series 2015M1-2023M6. Our empirical results reveal the bi-causal relationships between the financial sector and economic development. Then, whether the relationship is more demand-following or supply-leading depends on the measures used and the time trajectory. While an expansion in real GDP seems to have a more persistent impact on the development of financial institutions such as the banking and insurance sectors (demand-following relationship), the supply-leading relationship is influential in the short run. We also find that boosting access to credit and both stock and bond markets provokes economic activities. In addition, the increasing usage of electronic money encourages more consumption of imported goods than domestic goods.

• Item Type: MPRA Paper
• Language: English
• Keywords: financial sector, economic activities, demand, supply, FAVAR
• Subjects: C - Mathematical and Quantitative Methods > C1 - Econometric and Statistical Methods and Methodology: General > C11 - Bayesian Analysis: General; C - Mathematical and Quantitative Methods > C3 - Multiple or Simultaneous Equation Models ; Multiple Variables > C38 - Classification Methods ; Cluster Analysis ; Principal Components ; Factor Models; C - Mathematical and Quantitative Methods > C5 - Econometric Modeling > C55 - Large Data Sets: Modeling and Analysis; E - Macroeconomics and Monetary Economics > E4 - Money and Interest Rates > E44 - Financial Markets and the Macroeconomy; G - Financial Economics > G1 - General Financial Markets > G10 - General; G - Financial Economics > G1 - General Financial Markets > G18 - Government Policy and Regulation; G - Financial Economics > G2 - Financial Institutions and Services > G21 - Banks ; Depository Institutions ; Micro Finance Institutions ; Mortgages; G - Financial Economics > G2 - Financial Institutions and Services > G28 - Government Policy and Regulation

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