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How do political and economic institutions affect each other?

Braunfels, Elias
Working paper
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URI
http://hdl.handle.net/11250/195776
Date
2014-05
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  • Discussion papers (SAM) [586]
Abstract
This paper provides evidence for the mutually reinforcing relation of political and

economic institutions. To overcome problems of endogeneity I utilize lag instruments within a GMM

framework for dynamic panel data. Employing recently developed tests, I show that limiting the

number of lag instruments and collapsing the instru- ment matrix eliminates many and weak

instrument biases. My major findings are that (i) improving economic institutions has a large

positive effect on future po- litical institutions, and (ii) political institutions have a

positive but quantitatively smaller effect on current economic institutions. In addition, (iii)

political instability positively affects future political institutions. In line with predictions

from the in- stitutional literature, the timing of effects is such that political institutions

depend on lags of explanatory variables, while economic institutions are contemporaneously

determined. Moreover, results are driven by countries with initially low political institutions

implying that in these countries, much is to be gained from institutional

reform.
Publisher
Norwegian School of Economics. Department of Economics
Series
Discussion paper;19/2014

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