Financial development and economic diversification: evidence from the GCC countries

Purpose The Gulf Cooperation Council (GCC) countries, characterised by their significant dependence on oil and gas revenues, have long grappled with the challenge of reducing their reliance on hydrocarbons and promoting more resilient and inclusive growth. This paper aims to examine whether and how financial development can help promote economic diversification in these countries. Design/methodology/approach This paper examines the impact of financial development on economic diversification in the GCC countries from 1995 to 2024. Utilising the export diversification index as a proxy for diversification, the study employs a vector autoregressive framework to capture both direct effects and dynamic interactions. Financial institutions development and private sector credit are used as measures of financial development, alongside several macroeconomic and institutional control variables. Findings The findings reveal that stronger financial institutions and increased credit to the private sector could significantly enhance economic diversification. These findings highlight the critical role of financial systems in supporting structural transformation and reducing reliance on resource revenues in the GCC economies. Originality/value The findings of this study diverge from prior studies that posited that finance in resource-dependent economies might remain concentrated in dominant sectors, highlighting the potential of financial development to facilitate structural transformation when it is effectively harnessed. This study contributes to the literature by presenting novel evidence that financial deepening can act as a catalyst for broadening the economic base, offering valuable insights for policymakers seeking to align financial reforms with diversification strategies.