Empirical Analysis of effect of qualitative financial development on Economic Growth (case of Iran)

It’s expected, theoretically, that financial development, facilitates allocation of resources to most-productive uses and thereby fosters economic growth. Nonetheless, some opponent theories and evidences, implies that financial development may has different and to some extent antonym effects on economic growth in different situations. Specifically, qualitative financial development (financial innovations), in addition to augmenting economic efficiency, could result in regulatory arbitrage (financial institutions efforts to sidestep regulatory restrictions in order to gain more profits) which, in turn, distorts fundamental economic variables from optimum levels and thereby affects economic growth negatively. In this study, we use a semi-parametric model, based on a monetary/financial economic growth model, and data from Iran economy for the period of 1369-1391 to empirically evaluate the effect of unexpected occurrence of financial innovation on capital formation. According to results of the study, qualitative financial development would scale down capital formation and economic growth. Additionally, results reveals that regulated reserve requirements in Iran might be at their optimal level.