Abstract
Did financial development and international trade reinforce each other and drive economic growth more than a century ago? We investigate these linkages among 17 countries during the first wave of economic globalization (1850–1929). Cross-country dynamic panels as well as VARs and VECMs for individual countries indicate that financial development led both trade and growth at this time, while trade largely responded to financial development.
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Notes
The countries and starting years of data coverage are: Argentina 1884; Australia 1880; Brazil 1880; Canada 1870; Denmark 1850; Finland 1862; France 1851; Germany 1883; Italy 1872; Japan 1878; Netherlands 1850; Norway 1865; Portugal 1880; Spain 1875; Sweden 1870; United Kingdom 1870; and the United States 1851.
Schularick and Taylor (2012) build an impressive dataset of bank loans that includes 15 of the countries we study starting as early as 1870, but the coverage is insufficient for our purposes. In particular, the loan sample is 18% smaller than ours for broad money, and coverage prior to 1900 is 35% smaller. Given our interest in time series analysis going well back into the nineteenth century, we proceed with broad money as our financial aggregate. At the same, we note that the loans and broad money series have correlations of more than 0.9 for all of the common countries in our samples measured across their overlapping observations. We thank Moritz Schularick for making an updated version of the loans data available to us.
The model assumes that the errors are orthogonal to the fixed effects and lags of the system variables, have positive variance, and are uncorrelated across cross-sectional units and time. We use country-fixed effects because they likely reflect country-specific omitted characteristics that are correlated with other explanatory variables.
Given the disruptions to international trade after the start of World War I, we checked our results against those obtained when ending the panel in 1913, which reduced the number of observations by 23%. We found that broad money and trade continued to Granger cause output at the 5 and 10% levels, respectively, in the LSDV estimations and at the 5% level in the system GMM estimations. Broad money Granger causes trade at the 15% level, which is slightly weaker than the result obtained in the full sample.
In any finite regression framework, the results of tests for statistical causality based on timing must be interpreted with caution given that they are predicated on inclusion of the full set of relevant information in the model. If this is violated, variables outside the system could exogenously move the variables of interest with different timing patterns, giving only the impression of one “causing” another. In this sense our results are only suggestive of the underlying economic forces that the data reveal.
As Lütkepohl (1993, 43–48) describes, zero impulse responses assign the initial shock in a VAR system to the first variable in the investigator’s ordering, with responses then computed in the standard manner. We order the variables in Fig. 1 according to their relative exogeneity as indicated by the panel Granger tests, with broad money first, trade second, and output last.
For the 51 series that we consider, all but three (GDP for Denmark and M3 for Japan and Sweden) are unable to reject the null hypothesis of a unit root at the 5% level with the augmented Dicky-Fuller or Phillips and Perron (1988) test. Johansen (1991) tests indicate the presence of a single cointegrating vector for GDP, M3, and trade in all but two countries (Italy and Japan).
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D’Onofrio, A., Rousseau, P.L. Financial Development, Trade Openness and Growth in the First Wave of Globalization. Comp Econ Stud 60, 105–114 (2018). https://doi.org/10.1057/s41294-017-0048-y
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DOI: https://doi.org/10.1057/s41294-017-0048-y