Financial development has been considered as one of the major in deciding factor in economic growing. We consider indexs in fiscal development are M1, M2 and M3 as independent variable in enhance in economic growing. The manners understudied are based on unit root trial, Cointegration Test and Granger causality trials. All of these methods used to cognize the relationship between fiscal development and economic growing is an bing or non. The information will cover from 1980 until 2009 which are 30 old ages informations in Malaysia.

Keywords: M1, M2 and M3, Unit Root Test, Cointegration Test, Granger causality trials fiscal development, economic growing.


The background of the survey focuses on the economic growing as dependant variable, and fiscal development as the independent variable which are M1, M2 and M3. Both dependent and independent variables will be used to analyse as an grounds of fiscal development and economic growing for this research.

The effects of the fiscal sector on existent economic system can barely be over-emphasized: Goldsmith 1969 ) . Long-run correlativity between fiscal development and economic growing is evaluated in a theoretically based multivariate VAR theoretical account, a model in which the analysis in the present paper relies to a great extent on Luintel and Khan ( 1999 ) . The examine the long-term correlativity between fiscal development and economic growing in a multivariate VAR model, though the trial is carried out utilizing unit root trials and co-integration analysis in a panel-based vector mistake rectification theoretical account ( VECM ) ( Christopoulos and Tsionas 2004 ) .

This survey will utilize 30 old ages data which screen informations from 1980 until 2009. The informations were which is contain for dependent variable is economic growing which is more focus to gross domestic merchandise ( GDP ) and independent variable are M1, M2, and M3 ( obtained from Bank Negara Malaysia aka BNM ) .

The significance from this survey will give impact to the economic growing because after does the econometric trial used three method as merely reference above to the fiscal development and its dependant variable its show that the variable its significance, means addition in the M1, M2 and M3 will give impact to the fiscal development and economic growing at the same time.

Furthermore, from this survey will besides give benefit other research workers and pupils as a usher line to make research in the hereafter?



The claim that fiscal development will quickly increase economic growing in some old ages, this paper will analyze whether this equation have grounds or non. Besides that, it is besides find out the related fiscal development and economic growing through the equation provided.

Harmonizing to Liang and Teng ( 2006 ) , it ‘s non easy to look into assorted facets for the finance-growth link since merely prove the correlativity among them, where it was used in most cross-country surveies, and the limited natural in the cross-sectional technique can take to specious appraisals. Furthermore it is already know correlativity reveal nil about causing. Besides that, harmonizing to Ang ( 2008 ) for developing states, it face with the deficiency of sufficient clip series informations therefore the relationship between fiscal development and economic growing have been dominated by cross-country surveies until late. In these surveies more focus given to the fiscal development which is its chief characteristics M1, M2, and M3 are an of import to find of the economic growing.

The chief focused on these surveies either to cognize whether the fiscal development plays a better or positive function in enhance economic growing or frailty versa and analyzing the way of causality between these three variables.

Literature Review

In this survey, we try to happen the grounds causality between fiscal development and economic growing or does economic growing propel fiscal development, or no relationship among them or fiscal development and economic growing interrelated.

Harmonizing to Patrick ( 1966 ) , causality between fiscal development and economic growing base on the “ supply-leading ” hypothesis and demand following hypothesis. The supply-leading hypothesis is a relationship from fiscal development to economic growing, means the creative activity of fiscal establishment and increases the supply of fiscal services markets ; therefore it leads to existent economic growing. In this phenomenon, was supported by McKinnon ( 1973 ) , King and Levine ( 1993a, B ) , Neusser and Kugler ( 1998 ) , and Levine et Al. ( 2000 ) , where their theoretical and empirical authorship on survey have shown that fiscal development is causes and of import economic growing.

Economic growing consequence to fiscal development through the “ demand-following ” hypothesis ( Patrick 1966 ) , where, when demand for fiscal services addition, it might bring on an enlargement in the fiscal sector as the existent economic system growing, for illustration fiscal sector responds passively to economic growing. This hypothesis was supported by Gurley and Shaw ( 1967 ) , Goldsmith ( 1969 ) , and Jung ( 1986 ) .

Financial development and economic growing are positively related to each other, as Schumpeter ( 1911 ) , Patrick ( 1966 ) , Goldsmith ( 1969 ) , MacKinnon ( 1973 ) , Shaw ( 1973 ) and Ang ( 2008 ) the relationship between this two remains an of import to each other in economic industry. Obviously, relationship between fiscal development and economic growing still no general consensus among economic experts. Because of that as a practical manner to settle this contention, empirical will be utilizing Liang and Teng ( 2006 ) .

Therefore, it is normal to utilize system of equations in the relationship between fiscal development and economic growing Ang ( 2008 ) . The relationship between fiscal development and economic growing have been analyzed and it have a different facet in theoretical and empirical surveies for cross-nations every bit good as on industry and individual state and house degree through time-series, dynamic panel techniques and transverse sectional ( Liang and Teng 2006 ) .

A chief point of empirical surveies, chiefly utilizing transverse sectional attacks, has been seen that the degree of fiscal development is a best manner to forecaster of economic growing Beck, Levine, and Loayza, ( 2000 ) Gregorio and Guidotti, ( 1995 ) King and Levine, ( 1993 ) ; Levine, ( 2002 ) . A legion of recent diaries on endogenous growing besides demand the better function of fiscal mediators played to economic growing ( Amable and Chatelain, 2001 ; Bencivenga and Smith, 1991 ; Bencivenga, Smith and Starr, 1995 ; Benhabib and Spiegel, 2000 ) .

Besides the system of equation, it has a double consequence on economic growing in fiscal development Gregorio and Guidotti ( 1995 ) . First, for the efficiency of capital accretion markets must develop of domestic fiscal, therefore increasing the fringy productiveness of capital.

Harmonizing to Goldsmith ( 1969 ) , fiscal intermediation contributes to raising the nest eggs rate, therefore the investing rate hence increasing nest eggs rate. It shows positive correlativity between the degree of existent per capital GNP and fiscal development. He argues that, the procedure of growing has response effects on the fiscal markets through making inducements to acquire farther fiscal development.

From other position, De Gregorio ( 1993 ) and Jappelli and Pagano ( 1994 ) analyze consequence of fiscal developments on nest eggs rate. They focused on the effects of borrowing restraints – when non easy for single to borrow against for the future income – on economic growing.

One-half from persons who is inability to borrow against future income prefer to increase nest eggs ; this is because to finance current ingestion, persons must hold strong fiscal wealth through addition nest eggs when that person unable to borrow.

In this survey, economic growing will be more focal point to the pecuniary sum as a chief characteristic for fiscal development which is M1, M2 and M3. Friedman and Meiselman ( 1963 ) have found that money is more correlative with ingestion ; this is important to demo that ingestion will give impact to economic growing through utilizations of characteristic of fiscal development such as M1 and M2.

Exploitation of equation, the usage of this attack let the trial of a assortment of channels that can give impact on the relationship between fiscal development and economic growing. The six equations, such as, fiscal development, private investing, private economy, salvaging investing correlativity, foreign direct investing, and sum end product are used in this basic theoretical account. This simple model provides the nexus between fiscal development and economic growing. For every equation is formulated based on a theoretical theoretical account Ang ( 2008 ) .

The inspiration that fiscal sector development promotes addition was first put Forth by Joseph Schumpeter every bit early as in 1911. After that legion surveies have been investigated the relationship between fiscal sector development and economic growing. Harmonizing to ( Levine, 1997, p. 691 ) Contribution of fiscal development to economic growing in following ways: 1 ) fiscal markets allow little rescuers to pool financess, 2 ) wider scope of instruments for salvaging can exciting rescuers, 3 ) entire wealth can lift as efficient allotment of capital is achieved as proportion of fiscal economy, and 4 ) fiscal market encourages development of entrepreneurship, specialisation in production, and acceptance of new engineering.

There is, nevertheless, we a considerable argument how accurately fiscal development affects economic growing ( Gupta, 1984 ; Spears, 1992 ) . The structural linguistics, led by Goldsmith ( 1969 ) , are of the sight that fiscal development additions nest eggs in the signifier of fiscal assets, by this agencies, promoting capital formation and economic growing. Wallich ( 1969 ) , Tun Wai ( 1972 ) , Sinai and Stokes ( 1972 ) all of them have Empirical support for this hypothesis. The fiscal repressionists, led by McKinnon ( 1973 ) and Shaw ( 1973 ) , they believe that the rate of return on existent hard currency balances is the cardinal determiner of the rate of capital formation and as a consequence, for accomplishing a high rate of growing.

Dependent variable

Gross Domestic Product

GDP has a related in the fiscal development and economic growing, through the impact of fiscal development on GDP or per-capita income growing. Developed fiscal systems are associated with a important response to the domestic investing to force up in per capita GDP. The equation for the GDP theoretical account as follows:

GDP growing: i?? + b1R + b2T + b3C + vitamin E Eq. ( 2 )

Where R is variable those are by and large known as to explicate growing such as human capital, fiscal development, per-capita income and investing. T is variable that is under survey and affect growing, C is a variables used as control in the appraisal, such authorities outgo, exchange rate misalignments, rising prices and openness, while vitamin E is the error term.

Role of the fiscal development is a important drama in heightening investing efficiency. Furthermore fiscal construction is independent effects to domestic investing through maintain the degree of fiscal development with utilizing conventional step of fiscal intermediation. Both of the panel informations arrested development and cross-section are utilizing to prove the consequence of fiscal development on domestic investing Ndikumana ( 2005 ) . The determination from the construction, he know that no independent consequence on investing, means non heighten domestic investing to alterations in per capita GDP for degree of fiscal development and other than that in determiners of investing.

Independent variable

Financial development

The enlargement in the fiscal system will give a large impact in increased demand for fiscal services. Based on Robinsons ( 1952 ) when an economic system expands more fiscal merchandise and services and fiscal establishments will emerge to greater demand for fiscal services.

The model for McKinnon-Shaw suggests when involvement rate controls may falsify the economic in several ways. First, it will promote enterprisers in possible high giving up investing undertakings but discourage from puting in high hazard. Second, fiscal mediators will go excessively risk averse and will prefer loaning to established borrowers. Third, if borrowers obtain their financess at low cost, they may prefer to put in capital intensive undertakings merely. But McKinnon ( 1973 ) and Shaw ( 1973 ) argue in favor of liberalising the fiscal sector to taking involvement rate controls and market can find its ain recognition allotment in order to intensify their fiscal system.

Furthermore, some suggest that higher fiscal development may non depend on liberalising rate. For illustration with sedimentation insurance and no control of involvement rate may do in excessively lending behavior among Bankss ( Villanueva and Mirakhor, 1990 ; McKinnon and Pill, 1997 ) . The restraints from involvement rate may consequence to increase fiscal salvaging in the presence of the best administration through fiscal system, Stiglitz ( 1994 ) .

It is good known that fiscal liberalisation needs portion of fiscal development. The McKinnon-Shaw proposes that operation of the fiscal system is a limitation by the authorities, for illustration directed recognition plan, involvement rate ceiling and high modesty demands, and may impede fiscal system. This may in bend affect measure and quality of investings and decelerate down development in the fiscal systems.

However, fiscal liberalisation may bring on destabilization in cause fiscal crises and fiscal system ( see Diaz-Alejandro, 1985 ; Villanueva and Mirakhor, 1990 ) . Such as, fiscal liberalisation plans by Latin American states in the 1970s had cause in a legion of establishment bank failures and other bankruptcies. Financial system was badly undermined and involvement rate soared. Because of that, fiscal liberalisation can either to make intensify the fiscal system or fiscal breakability.

Overview of fiscal sector development

Since the impact of fiscal sector development is the chief focal point on economic growing, it is of import to analyze form and the magnitude of fiscal sector development in Malaysia. In general, the followers are some of the fiscal sector development, 1 ) fiscal deepening, where growing of fiscal instruments are needed. It shows itself in addition volume of turnover and is measured by the ratio of pecuniary sums to GDP. 2 ) Financial widening, addition in the figure of fiscal instruments and fiscal establishments. 3 ) Financial liberalisation, which means free motion of foreign capital, deregulating of involvement rate, and removal other restrictive patterns.

Base on Ansari ( 2002 ) he was foregrounding some of facets of fiscal sector development which is relevant to this research. As shown in table 1, it was has a important growing in all pecuniary sums in Malaya over 1960 until 1996. In nominal term, as we can see quasi-money have grown the fastest followed by M2 and M1 in that order. But this form of pecuniary growing seems unchanged when we seen in existent footings. A stable and steady growing in M1, which consists of demand sedimentations and currency in circulation, it will see of import in economic growing. High rate of economic growing in Malaysia has been caused by fast rate of growing of quasi-money, where consists of clip sedimentations and nest eggs.

Table1: Fiscal development indexs for Malaysia, 1960-1996

1960 1970 1980 1990 1996 1960-1996

Nominal in million: growing ( average growing ) 1st

Narrow money ( M1 ) 1170 2071 9757 25405 74182 12.67

Quasi-money ( qm ) 484 2058 17679 51255 160127 17.72

Broad money ( M2 ) 1654 4129 27436 76660 234309 15.01

Domestic recognition 418 2307 22375 90103 272780 20.36

Real in million ( 2nd )

Narrow money ( M1 ) 1894 3429 8144 17424 38199 9.04

Quasi-money ( qm ) 783 3408 14757 35155 82454 14.054

Broad money ( M2 ) 2677 6837 22901 52579 120653 11.36

Domestic recognition 676 3819 18676 61799 140463 16.67

Beginning: IMF, International Financial Statistics, CD-ROM.

1st Annual mean growing rate.

2nd existent money supply figures have been obtained by deflating nominal sums by GDP deflator, 1978: 100.

Therefore from the above tabular array, it shows the relationship between GDP and M1, M2 and M3 as an empirical grounds of fiscal development and economic growing. Where, when M1, M2 and M3 are addition it will consequence to the economic growing.


In some existing literature, some people have been used many proxy variables to typify fiscal development. Base on Ansari ( 2002 ) there a autumn into three wide classs, which are: 1 ) pecuniary sum, for illustration M1, M2, M3 and domestic recognition, 2 ) currency ratio, means the ratio of currency to pecuniary sum, 3 ) monetisation variable, means ratio pecuniary sums to national income.

In this survey have chosen to trust on first class, because on this survey more focal point to pecuniary sums M1, M2, and M3 variables as independent information, this survey want to happen the grounds whether this variables have correlativity with GDP as economic growing or non.

There are so many methods that research worker can be use to happen the decision about their determination research. All of the methods will depend to the state of affairs whether the informations are important or non. In this survey, methods that will be utilizations are unit root trial, Cointegration Test and Granger causality trials. All the methods will be test as both between dependant and independent variable, where GDP as dependent variable or M1, M2, and M3 as dependent variable. Example of an equation is ;

GDPyt = I±0 + I±1 M11t + I±2 M2t + I±3 M3t + E›t


M1t = I±0 + I±1 GDPt + E›t

M2t = I±0 + I±1 GDPt + E›t

M3t = I±0 + I±1 GDPt + E›t

First of all method that will be usage is unit root trial ; this is the basic method to happen the important information among the variables and whether informations is stationary or nonstationary. After find the consequence, the information was important and stationary. Therefore we try to utilize other method is cointegration trial method, it show that cointegration was exists among the variables in the long tally relationship.

To prove Granger causality we need stationary clip series. Harmonizing to Granger and Newbold ( 1974 ) and Phillips ( 1986 ) the usage of non-stationary variable in a given theoretical account will take to the specious arrested development. Any non-stationary clip series can accomplish stationary if differenced suitably ( Granger, 1986 ) . We can use Phillips-Perron trial in determine the proper order of differencing for any variable.

When both variables are changed to stationary clip series, Granger causality can be test by using the standard Granger causality trial.