India’s Finance-Growth Nexus with Carbon Emissions, Globalization, and Government Expenditure: A Non-Linear Approach Using ARDL and VARX Techniques
Takashi Fukuda
Independent Researcher
https://doi.org/10.47191/jefms/v8-i5-03ABSTRACT:
This study examines the causal relationship between financial development and economic growth (i.e., the finance-growth nexus) in India from 1970 to 2020. It is motivated as understanding the relationship between financial development and economic growth is crucial for policy formulation, particularly in emerging economies like India. Assuming the potential non-linearity of India’s finance-growth nexus, we employ Autoregressive Distributed Lag (ARDL) and Vector Autoregression with Exogenous Variables (VARX) cointegration techniques. It is also investigated how key control variables—carbon emissions, globalization, and government expenditure—affect this nexus. Economic growth is measured by real per capita GDP, while financial development is proxied by two indicators: financial depth (the ratio of private credit to GDP) and financial efficiency (the ratio of private credit to total deposits), which is one invention of this study. Using both ARDL and VARX techniques, our findings reveal a bidirectional and non-linear relationship between financial development and economic growth, irrespective of the financial development proxy used. This bidirectional relationship highlights the intertwined nature of economic growth and financial development, suggesting that policies targeting either must consider the implications for the other, particularly within the current context of sustainable development and globalization.
KEYWORDS:
Economic Growth, Financial Development, Cointegration, ARDL, VECM, India
REFERENCES:
1) Ahmed, F., Kousar, S., Pervaiz, A., and Shabbir, A. (2022). Do Institutional Quality and Financial Development Affect Sustainable Economic Growth?: Evidence from South Asian countries. Borsa Istanbul Review 22, 189-196.
2) Alaabed, A., and Masih, M. (2016). Finance-Growth Nexus: Insights from an Application of Threshold Regression Model to Malaysia's Dual Financial System. Borsa Istanbul Review 16, 63-71.
3) Anwar, A., and Iwasaki, I. (2023). The Finance–Growth Nexus in Asia: A Meta-Analytic Approach. Asian Development Review 40, 13–48.
4) Banerjee, A., Dolado, J. J., and Mestre, R. (1998). Error-correction Mechanism Tests for Cointegration in a Single equation Framework. Journal of Time Series Analysis 19, 267-283.
5) Beck, T., Demirguc-Kunt, A., and Levine, R. (2010). Financial Institutions and Markets across Countries and over Time: The Updated Financial Development and Structure Database. World Bank Economic Review 24, 77–92.
6) Cevik, S., and Rahmati, M. H. (2020). Searching for the Finance–Growth Nexus in Libya. Empirical Economics 58, 567–581.
7) Charemza, W. W., and Deadman, D. F. (1997). New Directions in Econometric Practice (2nd ed.). Edward Elgar Publishing.
8) Chowdhury, M. R., Chowdhury, M. T. I., Dhir, M. G. M., Azad, M. S., Uddin. M. E., Afrose, S., and Ferdous, M. S. (2021). Financial Deepening and Economic Growth Nexus: An Empirical Study on China and India. Mizoram University Journal of Humanities and Social Sciences 7, 153-163.
9) Demetriades, P. O., and Hussein, K. A. (1996). Does Financial Development Cause Economic Growth? Time-series Evidence from 16 Countries. Journal of Development Economics 51, 387-411.
10) Dombi, A. and Grigoriadis, T. (2020). State History and the Finance-Growth Nexus: Evidence from Transition Economies. Economic Systems 44, 100738.
11) Elliott, G., Rothenberg, T. J. and Stock, J. H. (1996). Efficient Test for an Autoregressive Unit Root. Econometrica 64, 813-836.
12) Engle, R. F. and Granger, C. W. J. (1987). Co-integration and Error Correction: Representation, Estimation and Testing. Econometrica 55, 251-276.
13) Fukuda, T. (2020). Finance-Growth Nexus and Globalization in Brazil, India, Philippines, Thailand, and Turkey: Evidence from VECM Cointegration Analysis. Journal of Economics and Financial Analysis 4, 55-77.
14) Fukuda, T. (2024). ARDL and VECM Investigation of the Environmental Kuznets Curve Hypothesis in Egypt, India, Mexico, Pakistan, Thailand, and Turkey: Financial Development, Globalization, and Government Expenditure Implications for Sustainable Development. Energy Technologies and Environment 2, 29-48.
15) Haibo, C., Manu, E. K., and Somuah, M. (2023). Examining Finance-Growth Nexus: Empirical Evidence from the Sub regional Economies of Africa. Sage Open 13, 1-18.
16) Jalan, B. (2000). Indian Economic Policy: Preparing for the Twenty-First Century. Penguin Books.
17) Johansen, S. (1988). Statistical Analysis of Cointegration Vectors. Journal of Economic Dynamics and Control 12, 231 254.
18) Johansen, S., Mosconi, R., and Nielsen, B. (2000). Cointegration Analysis in the Presence of Structural Breaks in the Deterministic Trend. Econometrics Journal 3, 216-249.
19) King, R. G. and Levine, R. (1993). Finance and Growth: Schumpeter Might Be Right, Quarterly Journal of Economics 108, 717-737.
20) KOF Swiss Economic Institute. (2025, January 25). KOF Globalisation Index.
21) Kumar, K. and Paramanik, R. N. (2020). Nexus between Indian Economic Growth and Financial Development: A Non linear ARDL Approach. Journal of Asian Finance, Economics and Business 7, 109–116.
22) Latif, K., Khan, N., Adil, S., and Ahmad, M. (2018). Finance-Growth Nexus: A Comparative Study of Pakistan, India, and Bangladesh. Research Journal of Commerce, Economics, and Social Sciences 12, 225-232.
23) Lee, J., and Strazicich, M. S. (2003). Minimum LM Unit Root Test with Two Structural Breaks. Review of Economics and Statistics 85, 1082-1089.
24) Lee, J., and Strazicich, M. S. (2004). Minimum LM Unit Root Test with One Structural Break. Department of Economics Working Paper No. 04-17, Appalachian State University.
25) Lucas, R. E. (1988). On the Mechanics of Economic Development. Journal of Monetary Economics 22, 3-42.
26) Luintel, K. B. and Khan, M. (1999). A Quantitative Reassessment of the Finance-Growth Nexus: Evidence from a Multivariate VAR. Journal of Development Economics 60, 381-405.
27) Maribe, M. H. and Leshoro, T. L. A. (2022). Effects of Government Investment and Consumption Spending on Economic Growth in South Africa: a Further Disaggregation Using ARDL Approach. International Journal of Economics and Finance Studies 14, 325-354.
28) Mammadov, I. & Ahmadov, F. (2021). Financial Development and Economic Growth: Evidence from Azerbaijan. WSEAS Transactions on Business and Economics, 18, 237-252.
29) Marwa, N. and Zhanje, S. (2015). A Review of Finance–Growth Nexus Theories: How Does Development Finance Fits in? Studies in Business and Economics 10, 83-91.
30) McKinnon, R. (1973). Money and Capital in Economic Development. Brookings Institution: Washington DC.
31) McKinsey Global Institute. (2021). The Rise and Rise of the Global Balance Sheet: How Productively are We Using Our Wealth? McKinsey Global Institute.
32) Narasimham Committee. (1991). Report of the Committee on the Financial System. Reserve Bank of India.
33) Narasimham Committee. (1998). Report of the Committee on Banking Sector Reforms. Reserve Bank of India.
34) Nayyar, D. (2017). Economic Liberalization in India: Then and Now. Economic and Political Weekly 52, 41-48.
35) Our World in Data. (2025, February 1). Per Capita CO₂ Emissions. Our World in Data.
36) Özdemir, O. (2020). Revisiting the Finance-Growth Nexus in Turkey: Bayer-Hanck Combined Cointegration Approach over the 1970-2016 Period. Sosyoekonomi 28, 41-68.
37) Patrick, H. T. (1969). Financial Development and Economic Growth in Underdeveloped Countries. Economic Development and Cultural Change 14, 174-189.
38) Pesaran, M. H., Shin, Y., and Smith, R. J. (2000). Structural Analysis of Vector Error Correction Models with Exogenous I(1) Variables. Journal of Econometrics 97, 293–343.
39) Pesaran, M. H., Shin, Y., and Smith, R. J. (2001). Bounds Testing Approaches to the Analysis of Level Relationships. Journal of Applied Econometrics 16, 289-326.
40) Phillips, P. C. B., and Perron, P. (1988). Testing for a Unit Root in Time Series Regression. Biometrika 75, 335–346.
41) Qayyum, A., Arslan A., Malik A. H., Khan S. N., Rehman, A. U., Asim, M., Ahmad, S., and ElAffendi M. A. (2024). Financial Innovation Can Hamper the Sustainable Economic Growth: A Tale of Two Emerging Economies. Journal of Open Innovation: Technology, Market, and Complexity 11, 100446.
42) Raihan, A. (2024). The Influences of Economic Progress, Natural Resources, and Capitalization on Financial Development in the United States. Innovation and Green Development 3, 100146.
43) Robinson, J. (1952). The Rate of Interest and Other Essays. Macmillan.
44) Said, Y. and Hammam, R. (2024). Financial Development is Supply-Leading or Demand-following? Empirical Investigation on EU Countries. European Journal of Sustainable Development 13, 121-140.
45) Sanusi, K. A. and Dickason-Koekemoer, Z. (2024). Trade Openness, Financial Development and Economic Growth in Lesotho: BVAR and Time-Varying VAR Analysis. International Journal of Economics and Financial Issues 14, 66-75.
46) Schumpeter, J. A. (1934). The Theory of Economic Development: An Inquiry into Profits, Capital, Credit, Interest, and the Business Cycle. Harvard University Press.
47) Shaw, E. S. (1973). Financial Deepening in Economic Development. Oxford University Press.
48) Shin, Y., Yu, B., and Greenwood-Nimmo, M. (2014). Modelling Asymmetric Cointegration and Dynamic Multipliers in a Nonlinear ARDL Framework. In Sickles, R. C. and Horrace, W. C. (Eds.), Festschrift in Honor of Peter Schmidt: Econometric Methods and Applications (pp. 281-314). Springer.
49) Sohag, K., Shams, S. M. R., Omar, N., and Chandrarin, G. (2019). Comparative Study on Finance-Growth Nexus in Malaysia and Indonesia: Role of Institutional Quality. Strategic Change 28, 387-398.
50) Udoh, B. E., Jack, A. E., Prince, A. I., Ekeowa, K.-I. L., Ndubuaku, V., and Samuel, U. E. (2021). Financial Deepening and Economic Growth in Nigeria: ARDL and NARDL Techniques. Universal Journal of Accounting and Finance 9, 667-677.
51) United Nations (2025, February). Sustainable development. United Nations, Department of Economic and Social Affairs.
52) World Bank. (2020). Global Financial Development Report 2019/2020: Bank Regulation and Supervision a Decade after the Global Financial Crisis. World Bank.
53) World Bank. (2025, February 1). World Development Indicators. DataBank.
54) Wu, C. F., Huang, S. C., Chang, T., Chiou, C. C., and Hsueh, H. P. (2020). The Nexus of Financial Development and Economic Growth across Major Asian Economies: Evidence from Bootstrap ARDL Testing and Machine Learning Approach. Journal of Computational and Applied Mathematics 372, 112660.
55) Zivot, E., and Andrews, D. W. K. (1992). Further Evidence on the Great Crash, the Oil-Price Shock, and the Unit-Root Hypothesis. Journal of Business and Economic Statistics 10, 251-270.
