Academic journal article Global Journal of Business Research

Financial Liberalization: A Fourth Generation Thought

Academic journal article Global Journal of Business Research

Financial Liberalization: A Fourth Generation Thought

Article excerpt

ABSTRACT

Empirical studies in the late 1980s and 1990s on financial liberalization lent support to the reforms carried out in line with the Mckinnon-Shaw hypothesis. Later evidence shows financial liberalization failed to achieve its desired results in many countries. Thus, the emphasis of current literature is to identify and explain the reasons for non-achievement of expected objectives to be realized through financial liberalization. An extensive literature survey done through this study reveals two main reasons for this failure. One is the incorrect policy procedure being followed in implementing financial liberalization referred to as a sequential problem. The other is to have policy inconsistencies during the reforming periods, referred to as a macroeconomic problem. This paper analyses the theoretical evolution of financial liberalization considering the empirical evidence presented by researchers through first, second and third generations of financial liberalization. The objective is to develop a more comprehensive analysis that can be identified as a fourth generation model of financial liberalization. Future researchers can make use of this model in their empirical analysis on measuring the success of financial reforms' in various countries.

JEL: G000, G010

KEYWORDS: Financial Liberalization, Mckinnon-Shaw Hypothesis, Sequential Problem, Macroeconomic Problem, Fourth Generation Model

INTRODUCTION

The relationship between finance and economic growth has been debated for quite a long time. The importance of finance for achieving a high economic growth from a modern point of view has been recognized initially during the beginning of the 20th century. Becker (2002) argued that Schumpeter (1911) was the first scholar to argue that financial resources were required for technological innovations and economic growth. Schumpeter further argued that one can only become an entrepreneur by becoming previously a debtor. Following these views Keynes (1936) also highlighted the importance of increasing financial savings for investment and thereby speeding up economic growth, although he did not talk about the specific modalities in this regard (as cited by Arestis, 2005).

Gurley and Shaw (1955) published their seminal paper of the role of finance on economic growth by drawing attention to the significance of financial intermediation and the role of credit supply for economic growth. Patrick (1966) highlighted three ways in which financial systems can influence the capital stock to acquire an economic growth. Goldsmith (1969) mentioned that having a "financial super structure" was necessary although it was not a sufficient condition for acquiring an economic growth. Patrick and Park (1994) pointed out the positive role that finance can play to achieve economic growth. According to Levine (1997) the financial market lubricates the economy by providing liquid funds and the expertise required for growth and investment (as cited by Arestis, 2005). In contrary to the above view points, there are many others who disagree partly or sometimes even fully with the viewpoints expressed in support of the relationship between finance and economic growth and development. Robinson (1952) argued that financial development primarily follows after economic growth and the financial system does not matter.

That is economic growth develops entrepreneurship and other variables of development in a country and these developments will ultimately bring the financial development (as cited in Arestis, 2005). Which shows that, entrepreneurship leads to develop a financial system and not the other way around. Andres et al. (1999) also through their empirical analysis based on Organization for Economic Co-operation and Development (OECD) countries did not find any positive link between growth and financial development (as cited by Paudel, 2007).

In 1973, a path breaking contribution was made by Mckinnon and Show (Mckinnon-Show hypothesis) through theoretical basis as well as empirical evidences, that adopting liberalized financial sector reforms in developing countries will precede to economic development. …

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