Financial Sector Size, Interconnectedness, and Economic Growth

Abstract

This paper contributes to the literature on the relationship between financial development and GDP per capita growth, by considering both the total financial assets and the interconnectedness across the different financial sectors, as well as employing a more detailed sectoral classification. It focuses on a set of European advanced economies in the 1995–2023 period and finds that higher levels of total financial assets of banks and non-banks are negatively associated with GDP per capita growth. The same is also true of measures of interconnectedness within the aggregate financial sector, which display a negative association in baseline specifications but are more sensitive to identification choices. These results reinforce the view that financial deepening beyond a certain point may hinder growth in advanced economies.