Abstract. In earlier times economic growth is commonly discussed in terms of real GDP per capita, industrial output, capital, labor force, educational growth, savings, investments, inflation and trade openness of the country. Including all the factors, financial development plays a crucial role for country’s economic growth. It is a multidimensional concept and constitutes a potentially important mechanism for long run economic growth. The study makes use of the Augmented Dickey-Fuller (ADF) and Phillips-Perron (PP) methods for unit root test and the variables were found to be stationary, though not in their level form but in their first difference. Autoregressive Distributed Lag (ARDL) bound testing approach to co-integration techniques and Error Correction Model (ECM) is used for long run and short run causality in Indian time series data covering the period from 1980 to 2011. The paper finds a co-integration relationship between financial sector development and economic growth. It concludes that financial development can be interpreted as one of the long run determinants of economic growth, not vice-versa.

Keywords: Financial development; Economic growth; PCA; ARDL; ECM; India.