The spillover effects of financial development and institutions on economic growth in emerging economies: new insights from spatial Durbin approach

Despite the extensive literature on the relationship between financial development (FD) and economic growth, previous studies have largely overlooked the potential spatial interdependence between countries. To address this gap, this paper employs spatial Durbin estimation that explicitly captures the spillover effects of FD and institutions on a panel dataset of 56 emerging countries over a 30-year period. The findings reveal a significant impact of FD on economic growth, although no evidence of its threshold effect. Institutions play a critical role in shaping the FD-growth relationship, with political institutions being the most influential in driving economic growth both within and across neighboring countries. On the other hand, improvement in economic institutions moderates the growth-effect of FD. Financial institutions drive the within-country effect of FD on growth, while the spillover effect primarily stems from financial markets in neighboring countries. The robustness of the findings is confirmed through a battery of tests. In conclusion, this empirical study offers valuable insights into the complex relationship between financial development, institutions, and economic growth in emerging countries. By considering spatial interdependencies and the role of institutions, policymakers can devise effective strategies to harness the positive effects of financial development and create an enabling environment for sustained and inclusive economic growth.