The Financial Deepening-Productivity Nexus in China: 1987-2001

This paper states that deepening financial intermediation may promote economic growth by mobilizing more investments, and lifting returns to financial resources, thus raising productivity. The paper:

• Uses provincial panel data from China in an attempt to examine if the deepening process of financial development accounts for the growth in regional productivity growth;
• Proposes an indirect measure by determining how much total outstanding bank loan was granted to state and non-state sectors;
• Constructs this measure as the ratio of credit for the non-state sector to gross domestic product (GDP);
• Adds this indicator of financial deepening as an independent variable to the productivity growth model in order to explore the relationship between financial depth and productivity growth in China;
• Employs standard growth accounting to produce an annual estimate of total factor productivity in each province;
• Uses regression of these estimates on a set of independent variables.

The study finds a significant and positive nexus between financial deepening and productivity growth. The paper concludes that:

• Given the divergent pattern of financial deepening between coastal and inland provinces, this finding helps explain the rising regional disparity in China;
• China should further liberalize the financial sector and continue to privatize locally owned state enterprises;
• Banking sector reform in China is slow and incomplete;
• Government intervention in the allocation of bank credit slows down the deepening process of financial development.