Finally, we test whether the institutional framework for competition policy amplifies the effect of bank competition on financially dependent firms. There is now a general consensus that a well‐ functioning competition law system, including an independent competition authority, is essential to the protection and promotion of healthy competition, including in the banking sector (see International Competition Network, 2005, and OECD, 2011). Competition law is an important determinant of economic growth yet it crucially depends on the law enforcement efficiency of the government (Ma, 2011). To analyze the impact of the institutional setting for competition policy on economic growth we interact a measure of government effectiveness with our indicator of external finance dependence. We use the World Bank government effectiveness index, which captures perceptions of the quality of public services; the quality of the civil service and the degree of its independence from political pressures; the quality of policy formulation and implementation; and the credibility of the government's commitment to such policies. The indicator ranges from approximately ‐2.5 to 2.5, with higher values signaling stronger government effectiveness. Results are reported in column 7 (labeled “Govt effect”). We find for all specifications a statistically significant and positive coefficient, indicating that more government effectiveness exerts positive effects on growth in sectors that depend on external finance.

This set of regressions conveys one main message: some competition policies might play an effective role in enhancing growth in financially‐dependent sectors. In particular, our findings show that relaxing restrictions on banks’ activities, reducing informational asymmetries by facilitating the availability of credit information, and improving quality and effectiveness of public services all have a positive effect on industry growth performance.

# **7. Conclusions and policy implications**

Using a panel of 23 manufacturing sectors over 2002‐2010, this paper analyzes the effect of bank competition on economic growth of financially dependent industries in the GCC economies. Our results indicate that financially dependent industries grow faster in the presence of higher competition. Therefore, our findings support the _market power hypothesis_ . These results are robust to both structural and more direct measures of bank market power, hence providing support for both the SCP and the NEIO approaches to bank competition. Our findings are also robust to alternative indicators of firm external finance dependence. Additionally, we find that the impact of market power on firm growth is linear, i.e. it does not depend upon the initial degree of bank competition. We also find evidence that sectors dominated by small scale firms grow less when the banking market is less competitive. Finally, we find that smaller restrictions on banks’ permissible activities, greater access to credit information and more effective institutions are all significant in reducing the negative impact of low competition on firm growth and access to finance.

Our results have important implications for policy makers in the GCC as they advance the economic diversification agenda and seek options to improve financial access for firms, especially SMEs. Overall, our findings indicate that bank competition is an important aspect of financial sector development and, in turn, non‐oil economic growth in the GCC economies, and that there 13