The multidimensional effect of financial development on the shadow economy in Africa: A dynamic panel analysis approach

The relationship between financial development and economic growth has received much attention in developed countries in the last three decades. However, empirical study on how multidimensional levels of financial development affect the shadow economy in developing countries has received less attention. The paper's analysis begins with theoretical perspectives on the shadow economy's evolution. Using panel data from 42 African countries from 1990 to 2018, this paper addresses these research gaps by employing a battery of econometric techniques such as pooled ordinary least squares (OLS), fixed effects (FE), and system generalized method of moments (S-GMM). The results indicate that financial development is associated with a smaller size of shadow economy in Africa. On multidimensional levels, financial institutions (depth, access, and efficiency) have a negative and statistically significant impact on the shadow economy. Although financial markets are positively associated to the shadow economy, the greater impact of this is driven by financial depth and access. The findings suggest that African countries undertake credit market reforms to address financial market imperfections.