Effect of capital inflows on financial market Development: evidence from Ghana

Abstract

The study examines the effect of capital inflow variables on financial development in Ghana. Annual data on foreign direct investment and external debt was extracted from the World Bank World Development Indicators from 1970 to 2014 while data on domestic access to credit by the private sector and remittance inflows was extracted from the Global Financial Development Dataset from 1970 to 2014. Data was analysed by using the descriptive, causal and the Johansen and Juselius (1990) multivariate cointegration model. The results revealed that foreign direct investment; external debt and remittance inflows have a significant negative relationship with financial development in the long run. Also, the study documents a significant negative relationship between external debt, remittance inflows and financial development in the short run. However, the study recorded an insignificant relationship between foreign direct investment and financial development in the short run. For foreign direct investment to fully contribute to financial development, issues of capital flight must be addressed by government. Government must adopt policies that are expected to reduce the debt burden and ensure that external debt did not reach unsustainable level. Policy makers should take pragmatic steps to channel remittances inflows to productive sectors of the economy. Finally, government should make policies that will make foreign capital inflows complement but not to replace domestic investment.