Abstract

This paper empirically examines the relationship between financial development and economic growth in a small open economy of United Arab Emirates (UAE). Using time series data from 1974 to 2008, the study employs the autoregressive distributed lag (ARDL) approach to co-integration. The analysis is carried out using two indicators to measure the level of financial development. The first indicator is the financial depth or size of the financial intermediaries sector as measured by the monetization ratio (M2/GDP). The second indicator is the ratio of the credit provided to private sector by commercial banks as a percentage of the GDP (financial intermediation ratio). The results show a negative and statistically significant relationship between financial development, as measured by M2/GDP, and economic growth. The results also suggest a bi-directional causality between the two variables. Over all, the evidence supports neither the demand-following nor the supply-leading hypotheses for UAE.

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