Macroeconomic Dynamics



ARTICLES

INFLATION AND FINANCIAL DEPTH


MOHSIN S. KHAN a1c1, ABDELHAK S. SENHADJI a1 and BRUCE D. SMITH a2
a1 International Monetary Fund
a2 University of Texas at Austin

Abstract

There is now a substantial theoretical literature arguing that inflation impedes financial deepening. Furthermore, it has been hypothesized that the relationship is a nonlinear one, in that there is a threshold level of inflation below which inflation has a positive effect on financial depth, but above which the effect turns negative. Using a large cross-country sample, empirical support is found for the existence of such a threshold. The estimates indicate that the threshold level of inflation is generally about 3–6 percent per annum, depending on the specific measure of financial depth that is utilized.


Key Words: Inflation; Financial Depth.

Correspondence:
c1 Address correspondence to: Mohsin S. Khan, International Monetary Fund, 700 19th Street, Room 6-328, Washington, DC 20431, USA; e-mail: mkhan@imf.org.


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