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Financial Globalisation Dynamic Thresholds for Financial Development: Evidence from Africa

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Abstract

We investigate whether financial development benefits from financial globalisation are questionable until certain thresholds of financial globalisation are attained. The empirical evidence is based on (i) data from 53 African countries for the period 2000–2011 and (ii) interactive Generalised Method of Moments with forward orthogonal deviations. The following findings are established. First, thresholds of Net Foreign Direct Investment Inflows as a percentage of GDP (FDIgdp) from which financial globalisation increases money supply are 20.50 and 16.00 for below- and above-median sub-samples of financial globalisation, respectively. Second, FDIgdp thresholds from which financial globalisation increases banking system activity and financial system activity for below-median sub-samples of financial globalisation are 13.81 and 13.29, respectively. Third, for financial size, there is evidence of: (i) a positive threshold of 21.30 in the full sample and (ii) consistent increasing returns without a modifying threshold for the above-median sub-sample. Policy implications are discussed.

Abstract

Nous faisons une enquête pour savoir si les avantages au développement financier de la mondialisation financière sont contestables jusqu’à ce que certains seuils de la mondialisation financière soient atteints. Les données empiriques sont fondées sur; (i) les données de 53 pays africains pour la période 2000–2011 et (ii) la Méthode interactive des Moments Généralisés avec des déviations orthogonales avants. Les résultats suivants sont avérés. Tout d’abord, les seuils des entrées nettes d’investissements direct à l’étranger en pourcentage du PIB (IDE Pib), à partir desquels la mondialisation financière augmente la masse monétaire, sont respectivement en dessous et au-dessus de la médiane de 20,50 et 16,00 des sous-échantillons de la mondialisation financière. Ensuite, les seuils IDE Pib, à partir desquels la mondialisation financière augmente l’activité du système bancaire et l’activité du système financier, sont respectivement de 13,81 et 13,29. Enfin, en ce qui concerne le volume financier, il y a des preuves de: (i) un seuil positif de 21,30 à l’ensemble de l’échantillon et (ii) rendements croissants réguliers sans modification du seuil pour les sous-échantillons au-dessus de la médiane. Les retombées politiques sont discutées.

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Notes

  1. We use the terms ‘financial development’ and ‘domestic financial development’ interchangeably throughout this study.

  2. According to the theoretical underpinnings, less-developed countries are comparatively lacking in capital but rich in labour. Hence, access to foreign capital is a means to increasing investment and therefore economic prosperity. However, developed nations have less volatile output than have developing countries, which enhances potential gains from the latter (Kose et al, 2011).

  3. ‘In this paper we develop a unified empirical framework for characterising such threshold conditions. We find that there are clearly identifiable thresholds in variables such as financial depth and institutional quality: the cost-benefit trade-off from financial openness improves significantly once these threshold conditions are satisfied’ (Kose et al, 2011, p. 147).

  4. This notion of threshold is also consistent with Cummins (2000) on a minimum threshold/level in language proficiency before second-language speakers can start reaping the rewards from a given language. Moreover, our definition of threshold is also in accordance with the theory of critical mass that has been substantially documented in the economic development literature (see Roller and Waverman, 2001; Ashraf and Galor, 2013). A recent application of the critical mass or threshold theory based on interaction variables can be found in Batuo (2015). Hence, in our view, threshold effects can be obtained from interactive regressions. In essence, within the frame of this study, the notion of threshold is not different from: (i) critical mass for positive effects (Roller and Waverman, 2001; Batuo, 2015); (ii) minimum requirement for enjoying of positive effects (Cummins, 2000); and (iii) conditions for Kuznets and U shapes (Ashraf and Galor, 2013).

  5. The de facto and de jure measures of financial globalisation are foreign direct investment and KAOPEN (from Chinn and Ito, 2002), respectively.

  6. ‘Borrowing from the FDSD, this paper measures financial depth both from overall-economic and financial system perspectives with indicators of broad money supply (M2/GDP) and financial system deposits (Fdgdp) respectively. While the former denotes the monetary base plus demand, saving and time deposits, the latter indicates liquid liabilities. Since we are dealing exclusively with developing countries, we distinguish liquid liabilities from money supply because a substantial chunk of the monetary base does not transit through the banking sector’ (Asongu, 2014, p. 189). The two proxies, which are in ratios of GDP (see Appendix A) can robustly cross-check each other as either account for over 97.4 per cent of information in the other (see Appendix C).

  7. ‘By financial intermediation efficiency here, this study neither refers to the profitability-oriented concept nor to the production efficiency of decision making units in the financial sector (through Data Envelopment Analysis: DEA). What we seek to highlight is the ability of banks to effectively fulfil their fundamental role of transforming mobilized deposits into credit for economic operators (agents). We adopt proxies for banking-system-efficiency and financial-system-efficiency (respectively “bank credit on bank deposits: Bcbd” and “financial system credit on financial system deposits: Fcfd”)’ (Asongu, 2014, pp. 189–190). Like with financial depth, these two financial allocation efficiency indictors have a degree of substitution of 86.80 per cent (see Appendix C). Hence, one can be used to check the consistency of the other. According to Chen (1996), FDI location decisions are substantially determined by allocation efficiency.

  8. ‘By financial intermediary activity here, the work highlights the ability of banks to grant credit to economic operators. We proxy for both banking intermediary activity and financial intermediary activity with “private domestic credit by deposit banks: Pcrb” and “private credit by domestic banks and other financial institutions: Pcrbof” respectively’ (Asongu, 2014, p. 190). In light of Appendix C, the two measures can be used to cross-check one another.

  9. According to the FDSD, financial intermediary size is measured as the ratio of ‘deposit bank assets’ to ‘total assets’ (deposit bank assets on central bank assets plus deposit bank assets: Dbacba).

  10. Hence, for the purpose of simplicity ‘sub-sample with below-median FDI’ is used to refer to the ‘sub-sample with below (or equal) median FDI inflows.’

  11. 20.500 is the rewarding threshold because it represents the point where the overall impact of FDI on money supply becomes positive. Accordingly: (20.50 × 0.016)+(−0.328)=0. Consistent with the definition of threshold provided in the introduction, a threshold is the inflexion point from which the underlying function is either U or Kuznets shape. In order words, 20.500 is the threshold at which the overall sign of FDI changes from negative to positive.

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Acknowledgements

The authors are highly indebted to the editor and referees for constructive comments.

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Authors and Affiliations

  1. Vrije Universiteit Brussel, Brussel, Belgium

    Simplice A Asongu & Lieven De Moor

  2. African Governance and Development Institute, Yaoundé, Cameroon

    Simplice A Asongu

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  1. Simplice A Asongu
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Correspondence to Simplice A Asongu.

Appendices

Appendix A

Table A1

Table A1 Variable definitions
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Appendix B

Table B1

Table B1 Summary statistics
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Appendix C

Table C1

Table C1 Correlation analysis (Uniform sample size: 475)
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Appendix D

Table D1

Table D1 Persistence of the dependent variables
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Asongu, S., De Moor, L. Financial Globalisation Dynamic Thresholds for Financial Development: Evidence from Africa. Eur J Dev Res 29, 192–212 (2017). https://doi.org/10.1057/ejdr.2016.10

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