Non-linear inflation and financial development nexus in Sub-Saharan Africa

Abstract

The study analyses the inflation and financial development nexus in sub-Saharan Africa over the period 1982-2016 with 5-year averaged data. This is particularly key as there has not been a study which has attempted to determine the non-linear connection between inflation and financial development with particular focus on the region which can ensure more informed policy guidance. The pure cross-section method is utilised to determine both the linear and non-linear relationship between inflation and financial development. Secondly, the non-linear approaches to determine the inflation threshold on financial development following Seo and Shin (2016) and Hansen (1999) on dynamic and non-dynamic panel threshold, respectively, are also utilised. The results reveals strong evidence of a negative impact of inflation on financial development and that the negative impact also increases with a rise in inflation from pure cross-section and threshold techniques utilised. Inflation threshold ranging between 4.85% and 6.62% was also established below which a positive impact on financial development is found which supports the existence of the short-run Philips curve. There is, however, a negative relationship beyond the threshold. It is, therefore, recommended that low and stable inflation levels below the observed threshold be ensured in the region so as to facilitate sustainable financial sector development. The desired inflation rates may be achieved through adopting and enforcing inflation targeting framework.