Institutions and Economic Growth

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Institutions and Economic Growth

• Does it really matter to have QoG?
• Theory one of the founding fathers of New
  Institutional Economics (NIE)
• North 1994
• Empirical debate Institutions rule vs. dont
  rule
• Rodrik, Subramanian Trebbi 2004
• Sachs 2003

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Transaction Cost Economics (TCE)

• Coase (1939) Why do Firms Exist?
• Transaction costs are pervasive (45 of the US
  GNP?)
• TCE ? NIE

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North 1994 Economic Performance Through Time

• Critic to Neoclassical Economic Theory
• focus the operation of markets, but doesnt
  address Why (some) markets (in some parts of the
  world) develop
• rejects the role of Institutions and Time
• markets are efficient only if it is costless to
  transact, but there are many transaction costs..

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Norths definition of Institutions

• Institutions are the humanly devised constraints
  that structure human interaction.
• They are made up of formal constraints (e.g.,
  rules, laws, constitutions), informal constraints
  (e.g., norms of behavior, conventions,
  self-imposed codes of conduct), and their
  enforcement characteristics.

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Assumptions of his theory

• necessary to dismantle the rationality
  assumption
• ideas, ideologies, myths, dogmas, and prejudices
  matter
• Instead of the rationality assumption, he prefers
  Simons bounded rationality

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Mental Models Time ? Institutions

• models that formed the informal constraints that
  defined the institutional framework of the tribe
  and were passed down intergenerationally as
  customs, taboos, and myths that provided cultural
  continuity
• The key to the foregoing story is the kind of
  learning that the individuals in a society
  acquired through time
• Hayek (1960) "the transmission in time of our
  accumulated stock of knowledge"

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Path dependence

• Term used to describe the powerful influence of
  the past on the present and future
• Example of bad path dependence Spain
• The long decline of Spain from the glories of the
  Hapsburg Empire of the 16th century to its sorry
  state under Francisco Franco in the 20th century
  was characterized by endless self appraisals and
  frequently bizarre proposed solutions

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Conclusion

• It is the admixture of formal rules, informal
  norms, and enforcement characteristics that
  shapes economic performance

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Rodrik, Subramanian Trebbi 2004

• The Big Question What accounts for the
  differences between the worlds richest and
  poorest nations?
• The 3 Big Answers
• Geography (Diamond 1997, Sachs 2001)
• International Trade (Dollar and Kraay 2004)
• Institutions (North 1990, Acemoglu et al. 2001)
• The Big Problem How to Test Them?

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F
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RST empirical test
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Results

• When we include Institutions, Geography and
  Integration dont have any additional explanatory
  power (in fact, they have the wrong sign!)
• The Quality of Institutions Trumps Everything
  Else

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Problems?

• Correlations, not Causal Relations..
• Lack of micro-foundations
• Reverse Causality?
• Omitted variables?
• No clear policy implications

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Test the robustness of the results I

• Institutions also ? accumulation of capital
  (human and physical)
• Eliminate too influential cases (Singapur,
  Ethiopia) and special ones (the neo-European
  countries)
• Introduce regional dummies (Latin America,
  Sub-Saharan Africa, Asia)

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Test the robustness of the results II

• Introduce standard variables in the literature
• Legal origin Common Law (British) vs. Civil Law
  (French)
• Former British Colony vs. French Colony
• Religion Muslim, Catholic and Protestant

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Conclusion of RST empirical analysis

• Institutions, even controlling for the
  traditional variables used in the literature,
  stay significant and if anything, their
  explanatory power increases

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Quality of Institutions
Acemoglu, Johnson, and Robinson 2001 Easterly
and Levine 2002 Rodrik, Subramanian, and Trebbis
2002
Geographical and Ecological Variables
Economic Growth
(e.g. climate zone, disease ecology, distance
from the coast)
Sachs 2003
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The standard institutional model

• ln(Yi) B0 B1 QIi B2 Zi Ei
• QI quality of institutions
• Z geography variables (distance from equator,
  mostly)

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Sachs Malaria matters

• First question How can we measure it?
• MAL94 of population with risk of malaria
  transmission (WHO reports of malaria cases)
• Malaria Ecology climate and mosquito abundance

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Results

• Institutions matter
• Some geographical and ecological variables also
  matter
• Malaria
• population living within 100km of the coast