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Department of Economics, Norwegian School of Economics (NHH) Discussion Paper Series in Economics, Department of Economics, Norwegian School of Economics (NHH)

No 19/2014:
How do Political and Economic Institutions Affect Each Other?

Elias Braunfels ()

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 instrument matrix eliminates many and weak instrument biases. My major findings are that (i) improving economic institutions has a large positive effect on future political institutions, and (ii) political institutions have a positive but quantitatively smaller e ect on current economic institutions. In addition, (iii) political instability positively affects future political institutions. In line with predictions from the institutional 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.

Keywords: Political Economy; Economic Institutions.; (follow links to similar papers)

JEL-Codes: O10; P16; (follow links to similar papers)

45 pages, June 30, 2014

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