This article investigates the dynamic linkage between insurance and banking activities from the asset size of the insurance sector in the context of a panel vector autoregression (VAR) framework utilizing data for 73 countries from 1980 to 2014. Panel Granger-causality tests show that a Granger-causal relation generally runs from banking activities to insurance sector assets. Impulse response analyses for the whole sample demonstrate that the size of insurance assets responds positively to a shock to liquid liabilities and deposits of the financial system, but negatively to a shock to deposit money bank assets as well as private credit issued by commercial banks, other financial institutions, and deposit banks. The observations are qualitatively identical for high-income countries, while the results are largely different for middle- and low-income countries. Moreover, we observe a significant interaction between insurance and banking activities in civil-law countries rather than in common-law ones.

Introduction

The banking and insurance sectors, two major branches of the financial industry, exert a substantial influence on an economy’s operations. The banking sector contributes to the economy mainly by financial intermediation that channels funds efficiently between savings and investments and thus promotes capital formation. The insurance sector, on the other hand, matters mainly in terms of risk transfer and loss indemnity that could mitigate threats of risk, which could sustain an entity’s resistance to risk and thus encourage production activities. Moreover, the insurance sector also exerts a financial intermediary function, because the considerable premiums it collects constitute an important funding source for capital markets. Academic studies do find evidence that generally supports the relevance of the two sectors by documenting a positive connection between economic growth and banking (Beck et al., 2000; Levine et al., 2000) and insurance activities (Arena, 2008; Han et al., 2010). Although the banking and insurance sectors exert different functions for an economy, some interrelations are present between them. The two sectors cooperate as well as compete in many respects. For instance, risk transfer and loss indemnity provided by the insurance sector, mainly in the non-life insurance sector, alleviate the impact of adverse shocks on production activities and could thus protect banks’ loans indirectly, which can encourage more loans and further promote financial intermediary activities of banking. Moreover, banks are an important channel for the sale of insurance products, the so-called bancassurance, in some countries, and the practice has gradually been adopted in other parts of the world. On the other hand, as financial institutions, the banking and insurance sectors, mainly the life insurance sector, both absorb funds from society and make loans or investments, and therefore some competition for funds between them may be present. The literature does implicitly or indirectly document a complementary (Webb et al., 2002; Beck and Webb, 2003; Bernoth and Pick, 2011; Lee and Chang, 2015) as well as substitutive (Haiss and Sümegi, 2008; Tennant and Abdulkadri, 2010) relation between the two sectors when exploring the relevance of banking or insurance activities to the economy. Song and Thakor (2010) show that insurance activities and bank credit may be complementary or substitutive under different circumstances. The divergent evidence suggests that the linkage between insurance and banking activities may be so intricate that an investigation from different perspectives is warranted in order to have a deeper realization.