The Effect of Inflation Threshold on Financial Development and Economic Growth: A Case Study of D-8 Countries

Authors

1 Department of Economics, Faculty of Human Sciences, Islamic Azad University of Maku Branch, Maku, Iran.

2 Faculty of Economics and Management, University of Tabriz, Tabriz, Iran.

3 Faculty of Economics, University of Tehran, Tehran, Iran.

Abstract

Although financial development facilitates the economic growth, inflationary conditions can negatively affect the relationship between the financial development and the economic growth. This paper studies the threshold inflation rate for the effect of financial development on the economic growth by using the panel smooth transition regression (PSTR) model and the data from eight Islamic developing countries of D-8 Group over the period 1990–2017. Results show an asymmetric relationship at different levels of inflation between financial development and the economic growth. The inflation rate will be transferred at the smooth transition speed of 0.93 by passing the threshold of 11.88 from the first regime to the second regime, which is a nonlinear relationship in the model. In fact, higher inflation levels reduce the motivation of the investor and consequently reduce the investment. On the other hand, the reduction in the productivity of production factors brings about the negative effect of the financial development on the economic growth. Thus, it is necessary for countries with a higher inflation rate threshold to have access to an efficient financial system in order to achieve the low inflation rates.
 

Keywords