The role of financial development in economic growth: The experiences of Taiwan, Korea, and Japan

Since the financial crisis broke out in East Asia, the importance of financial development and stability had been noted. This paper tries to examine the relationship between financial development and the source of growth for three Asian economies, namely, Taiwan, Korea, and Japan. Particularly, we wish to emphasize the role of financial development and structure (including banking and stock markets), monetary and financial policies, as well as the degree of international capital mobility in the economic growth processes. Using the generalized method of moments (GMM) and principal component analysis, we find that (1) high investment had accelerated economic growth in Japan, while high investment to GDP ratio did not necessarily lead to better growth performance if investment did not have been allocated efficiently, e.g. in Taiwan and Korea cases; (2) real export growth rate had contributed to Taiwan and Korea; (3) the finance-aggregate had positive effects on Taiwan's economy, but had negative effect on other countries; (4) the stock market development had positive effects on Taiwan's economic growth; (5) Taiwanese economy suffered less from the Asian financial crisis; (6) after foreign exchange deregulation, capital outflows had negative effects on all three economies, while the effect of capital inflows is negative but insignificant.