The Finance–Growth Link Revisited and the Role of Institutions as a Source of Finance in Latin America

In a panel framework that includes 18 countries, this paper studies the short and long run effect of financial development on economic growth and the determinants of financial development in Latin America. Financial development shows a positive effect on economic growth in the long run, but a negative effect in the short run for the full sample. When the sample is divided by income levels, this result holds only for the high income group. For the low income group, financial development has no significant effect on economic growth in the short run or in the long run. In the analysis of the determinants of financial development in Latin America, greater financial openness and lower country risk are associated with higher levels of financial development. From the components of the country risk index (financial, economic, and political risk) only the political risk index comes up positively significant. From the components of the political risk index, only law and order and government stability have a positive significant effect on financial development