CHAPTER ONE
INTRODUCTION
1.1 Background of the Study
A financial system is a set of rules, regulations and the aggregation of financial arrangement, institutions and agents that interact with each other and the rest of the world to foster economic growth and development of a nation (Nzotta and Okereke, 2009). According to Nwude (2004), financial systems consist of financial markets, financial intermediaries, financial instruments, rules, conventions and norms that facilitate and regulate the flow of funds through the macro-economy. A good financial system, according to Rousseau and Sylla (2001), is one that has these five key components: (i) Sound public finances and public debt management, (ii) Stable monetary arrangement, (iii) A variety of banks some with domestic and others with international orientations and perhaps some with both orientation, (iv) Well functioning securities market, and (v) A central bank to stabilize domestic finances and manage international financial relations.
Economists argue about the relationship between the financial system and economic growth. Economic growth can be defined as the expansion of the economy through a simple widening process. It involves enhancing the productive capacity of an economy by employing available resources to reduce risks, remove impediments which otherwise could lower costs and hinder investment (Sanusi, 2011). Economic growth also refers to a sustained increase in the output of an economy (Hogendorn, 1992).
The role of the financial system in promoting economic growth generated so much controversy among scholars and practitioners. Economists hold four different views on the relationship between finance and growth: supply leading view, demand following view, bi-directional relationship and no relationship between finance and growth (Apergis, et. al., 2007). The supply leading view asserts that finance impact positively on economic growth (King and Levine, 1993; Neusser and Kugler, 1998; Levine, et. al., 2000). This theoretical stand-point is traced to the work of Schumpeter (1911), cited in Arestis and Dematriades, (1993) who argues that production requires credit to materialize, and that one can become an entrepreneur by previously becoming a debtor…what the entrepreneur first wants is purchasing power before he requires any goods. Specifically, he sees financial intermediaries as agents of growth. Demirguc-Kunt (2008) stresses that financial systems help mobilize and pool savings, provide payments services that facilitate the exchange of goods and services, produce and process information about investors and investment projects to enable efficient allocation of funds, monitor investments and exert corporate governance after these funds are allocated, and help diversify, transform and manage risk. The financial system, as opined by Miller (1998), plays a very crucial role in alleviating money frictions and, hence, influencing savings rate, investment decisions, technological innovations and long-run growth rate.
Contrary to the view of Schumpeter and other scholars on the importance of finance to economic growth is Robinson’s (1952), cited in Levine (2004) who stresses that finance simply follows growth and that where enterprise leads, finance follows. She argues that although growth may be constrained by credit creation in less developed financial systems, in more sophisticated systems, finance is viewed as endogenous responding to demand requirements. The demand following view states that finance actually responds to changes in the real sector and that economic growth creates a demand for developed financial institutions and services (Jung, 1986).
The third view supports the bi-directional relationship between financial system and economic growth (Demetriades and Hussein, 1996; Greenwood and Smith, 1997). Finally, proponents of the last view reject the existence of a finance-growth relationship (Lucas, 1988).
The debate revolves around the role of bank and capital market in promoting economic growth. Among scholars who support the view on the importance of financial system to economic growth came a different line of argument. This centered on the categorization of the financial system into bank-based and market-based and the comparative importance of both systems to economic growth. Attempts were made to find out whether one type of financial system better promotes economic growth than the other (Arestis, et. al., 2005). Using data from UK and US as market-based versus Japan and Germany as bank-based, studies have shown the relevance of financial structure, that is the degree to which a financial system is bank-based or market-based to economic growth (Hoshi, et. al., 1991; Mork and Nakkrumura, 1999; Weinstein and Yafeh, 1998; and Arestis, et. al., 2001). However, this relevance has been criticized since these countries in the past have shared similar growth. This has widened the debate along four competing theories of financial structure; bank-based view, market-based view, financial services-based view and legal based view.
| Project details | Contents |
|---|---|
| Number of Pages | 111 pages |
| Chapter one | Introduction |
| Chapter two | Literature review |
| Chapter three | methodology |
| Chapter four | Data analysis |
| Chapter five | Summary,discussion & recommendations |
| Reference | Reference |
| Questionnaire | Questionnaire |
| Appendix | Appendix |
| Chapter summary | 1 to 5 chapters |
| Available document | PDF and MS-word format |
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