Does political instability affect economic growth?

Ari Aisen and Francisco José Veiga of Central bank of Chile have written a nice paper on the topic. The abstract is:

The purpose of this paper is to empirically determine the effects of political instability on economic growth. Using the system-GMM estimator for linear dynamic panel data models on a sample covering 169 countries, and 5-year periods from 1960 to 2004, we find that higher degrees of political instability are associated with lower growth rates of GDP per capita. Regarding the channels of transmission, we find that political instability adversely affects growth by slowing productivity growth and, to a smaller degree, physical and human capital accumulation. Finally, economic freedom and ethnic homogeneity are beneficial to growth, while democracy may have a slight negative effect.

Some more details:

Political instability is regarded by economists as a serious malaise harmful to economic performance. Political instability is likely to shorten policymakers’ horizons leading to sub-optimal short term macroeconomic policies. It may also lead to a more frequent switch of policies, creating volatility and thus, negatively affecting macroeconomic performance. Considering its damaging repercussions on economic performance the extent at which political instability is pervasive across countries and time is quite surprising.

Measuring political instability by Cabinet Changes, that is, the number of times in a year in which a new premier is named and/or 50% or more of the cabinet posts are occupied by new ministers, figures speak for themselves. In Africa, for instance, there was on average a cabinet change once every two years in the period 2000-2003. Though extremely high, this number is a major improvement relative to previous years when there were, on average, two cabinet changes every three years. While Africa is the most politically unstable region of the world, it is by no means alone; as similar trends are observed in other regions (see Figure 1).

Using cabinet changes to measure political instability…what all measures economists design.

Some literature surveys:

The widespread phenomenon of political (and policy) instability in several countries across time and its negative effects on their economic performance has arisen the interest of several economists. As such, the profession produced an ample literature documenting the negative effects of political instability on a wide range of macroeconomic variables including, among others, GDP growth, private investment, and inflation. Alesina et al. (1996) use data on 113 countries from 1950 to 1982 to show that GDP growth is significantly lower in countries and time periods with a high propensity of government collapse. In a more recent paper, Jong-a-Pin (2009) also finds that higher degrees of political instability lead to lower economic growth.

As regards to private investment, Alesina and Perotti (1996) show that socio-political instability generates an uncertain politico-economic environment, raising risks and reducing investment. Political instability also leads to higher inflation as shown in Aisen and Veiga (2006). Quite interestingly, the mechanisms at work to explain inflation in their paper resemble those affecting economic growth; namely that political instability shortens the horizons of governments, disrupting long term economic policies conducive to a better economic performance.

Another interesting thing is the channel via which political instability works:

In this section, we study the channels through which political instability affects economic growth. Since political instability is associated with greater uncertainty regarding future economic policy, it is likely to adversely affect investment and, consequently, physical capital accumulation. In fact, several studies have identified a negative relation between political instability and investment (Alesina and Perotti, 1996; Mauro, 1985; Özler and Rodrik, 1992; Perotti, 1996). Instead of estimating an investment equation, we will construct the series on the stock of physical capital, using the perpetual inventory method, and estimate equations for the growth of the capital stock. That is, we will analyze the effects of political instability and institutions on physical capital accumulation.

It is also possible that political instability adversely affects productivity. By increasing uncertainty about the future, it may lead to less efficient resource allocation. Additionally, it may reduce research and development efforts by firms and governments, leading to slower technological progress. Violence, civil unrest, and strikes, can also interfere with the normal operation of firms and markets, reduce hours worked, and even lead to the destruction of some installed productive capacity. Thus, we hypothesize that higher political instability is associated with lower productivity growth. Finally, human capital accumulation may also be adversely affected by political instability because uncertainty about the future may induce people to invest less in education.

And what do authors find? Political instability impact total factor productivity and not much of human and physical capital accumulation. This is surprising actually.

In the end some advice:

Our results suggest that governments in politically fragmented countries with high degrees of political instability need to address its root causes and try to mitigate its effects on the design and implementation of economic policies. Only then, countries could have durable economic policies that may engender higher economic growth.

Interesting insights.

16 Responses to “Does political instability affect economic growth?”

  1. Insurance Upon Accident Of Physical Persons Says:

    […] Does political instability affect economic growth? « Mostly Economics […]

  2. select your broker Says:

    The economy of Africa consists of the trade, industry, and resources of the people of Africa. As of 2006[update], approximately 922 million people were living in 54 different countries. Africa is the world’s poorest inhabited continent. Though parts of the continent have made significant gains over the last few years, of the 175 countries reviewed in the United Nations’

  3. unicon india Says:

    The biggest contrast in terms of development has been between Africa and the economy of Asia. The African Economic Outlook report specifically mentions that Africa’s trade with China has multiplied by 10 since 2001, reaching over USD 100 billion in 2008. The economies of China and India have grown rapidly, while Latin America has also experienced moderate growth, lifting millions above subsistence living.

  4. mandy Says:

    hi my name is mandy and im writting a paper on how the government has affetcted India i was wondering if you had any points of views on the subject

  5. Albert Says:

    My name is albert im writing on political instability and if have your view please help me.

  6. Albert Says:

    My name is albert if your have information on political instability please help me.

  7. Albert Nnonye Says:

    What is poverty and what causes poverty

  8. Maharashtra and Karnataka….a case of common corruption « Mostly Economics Says:

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  9. Polish politics Says:

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  11. adefunke shonubi Says:

    So, in your opinion, what are the root causes of political instability, especially in developing countries?

  12. ashwariya Says:

    ya it may

  13. calvin peter Says:

    what are the effect of political instability in africa?

  14. Carmella Says:

    i think the problems are all related to weak laws governing some countries in Africa,let me give an example of Uganda were there has been no cahnge of a ruller for about 30 years now and if this is not looked into we will never resolve our problems related to political instability in Africa.

  15. Political Uncertainty And Economic Stability Says:

    […] [vi] […]

  16. Are We Headed For Another Financial Crisis? Says:

    […] political climate always has a big impact on the global economy and at the moment, we’re right in the middle of a very unstable period with a lot of drastic […]

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