Determinants of Financial Development across the Mediterranean. MEDPRO Technical Report No. 29/February 2013

Abstract

Casual observation shows that that the financial systems in the southern and eastern Mediterranean are\nunable (or unwilling) to divert the financial resources that are available to them as funding\nopportunities to private enterprises. Using a sample of both northern and southern Mediterranean\ncountries for the years 1985 to 2009, this study empirically assesses the reasons underlying such\nconditions. The results show that strong legal institutions, good democratic governance and adequate\nimplementation of financial reforms can have a substantial positive impact on financial development\nonly when they are present collectively. Moreover, inflation appears to undermine banking\ndevelopment, but less so when the capital account is open. Government debt growth appears to\nweaken credit growth, which confirms that public debt ‘crowds out’ private debt. Lastly, capital\ninflows appear to primarily have an income effect, increasing income and thereby national savings,\nand thus increasing the availability of credit.