Linking the missing market: The effect of bond markets on economic growth ☆ Patara Thumrongvit a , Yoonbai Kim a , Chong Soo Pyun b, ⁎ a University of Kentucky, United States b University of Memphis, United States article info abstract Article history: Received 5 August 2011 Received in revised form 18 January 2013 Accepted 22 January 2013 Available online 31 January 2013 Past studies have largely focused on the positive role of banks and stock markets on economic growth. This paper adds bond markets as a third key component of the financial system. Using a panel data set of 38 countries, and applying the generalized method of moments techniques for dynamic panels, we find that (i) stock market development is positively related to economic growth; (ii) the contributing role of bank credit to economic growth diminishes as domestic bond markets develop; (iii) government bonds are positively related to economic growth, while the effects of corporate bonds change from negative to positive, as domestic financial structures expand in size and diversity. © 2013 Elsevier Inc. All rights reserved. JEL classification: G2 O1 Keywords: Financial market Economic growth Panel data analysis Bond markets 1. Introduction The neoclassical economists' view, that financial markets play subordinate roles to the real sector of economy, has long lost its fulcrum. This view has been replaced in the literature by the general proposition that financial markets promote economic growth by not only promoting capital accumulation but also fostering efficient allocation of resources and technological innovations (Levine, 1997; Wachtel, 2001). It should be pointed out at the outset that economic growth is both country-specific and time-specific. It is a complex process of innovation which is shaped by the dynamic interplay between the industrial structure and financial system peculiar to individual countries at a given point in time. 1 While it appears that there exists a general consensus around the idea that an efficient mechanism of financial intermediation is critical in mobilizing savings and diversifying investment risks, growth literature shows sharply divided views on the specific direction of causality between financial development and economic growth. (Beck & Levine, 2004; Hassan, Sanchez, & Yu, 2011) On the one hand, a priori intuition and empirical evidence have given rise to a positive relationship between financial development and economic growth. For instance, LaPorta, Lopez-de-Silanes, Shleifer, and Vishny (1998) find that countries with legal systems which promote good corporate governance and creditors' rights had faster economic growth, while Goldsmith International Review of Economics and Finance 27 (2013) 529–541 ☆ We are grateful to the editor, Hamid Beladi and two anonymous referees for their helpful comments. We are also indebted to Daewon Kim and Frank SanPietro for their research and editorial assistances. This study was partially supported by a summer research grant from the Wang Center for International Business Education and Research at the University of Memphis. ⁎ Corresponding author. E-mail address: cspyun@memphis.edu (C.S. Pyun). 1 We are grateful to an anonymous referee for pointing to us the innovative process of financial system on economic growth. 1059-0560/$ – see front matter © 2013 Elsevier Inc. All rights reserved. http://dx.doi.org/10.1016/j.iref.2013.01.008 Contents lists available at SciVerse ScienceDirect International Review of Economics and Finance journal homepage: www.elsevier.com/locate/iref