The Impact of Institutional Quality on Economic Performance: An Empirical Study of European Union 28 and Prospective Member Countries
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Dec 31, 2017
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Abstract
Using a panel set of 28 European Union member states and Turkey over a period of 1995-2014, this paper examines to what extent institutional quality (economic freedom index) and its sub-indicators (rule of law, regulatory efficiency and market openness) can influence overall economic performance measured by gross value added per capita. The paper expands on existing literature by disaggregate the growth impact of institutions for all countries in the sample, high income and low income countries. The independent variables included in the model are gross fixed capital formation as a percentage of GDP, trade openness, government size, quality of institution, inflation and human capital while gross value added per capita is the dependent variable. Generally, the results show a positive and significant relationship between economic performance and the quality of institution. Precisely, a 1 per cent improvement in institutional quality is predicted to have an effect of increasing gross value added per capita by 1.092 per cent holding other things constant. However, decomposing countries according to their level of economic development the results reveal that the impact of institutional quality on economic performance is more pronounced in middle income countries than high income countries. Moreover, there is significant evidence that improvement of regulatory efficiency promotes economic performance for all countries and countries at different levels of development. Given these differences in the impact of institutional quality on economic performance across countries and also by institutional category this implies that different countries require different institutional settings to foster their growth.
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Siyakiya, P. (2017) “The Impact of Institutional Quality on Economic Performance: An Empirical Study of European Union 28 and Prospective Member Countries”, World Journal of Applied Economics, 3(2), pp. 3-24. doi: 10.22440/wjae.3.2.1.
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References
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Belarbi, Y., Sami, L., & Souam, S. (2016). The effects of institutions and natural resources in heterogeneous growth regimes. Middle East Development Journal, 8(2), 248-265. http://dx.doi.org/10.1080/17938120.2016.1225454
Berggren, N., Bergh, A., & Bjørnskov, C. (2013). Institutions, policies and growth in Europe: Quality versus stability (4th Ed.) SIEPS.
Biraci, R., Llukani, T., & Nano, D. (2011). EU enlargement and institutional quality: How far away is Albania from the EU member states? The Western Balkans Policy Review, 1(2), 98-116.
Blundell, R., & Bond, S. (1998). Initial conditions and moment restrictions in dynamic panel data models. Journal of Econometrics, 87(1), 115-143. http://dx.doi.org/10.1016/S0304-4076(98)00009-8
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Boschma, R., Capone, G., & Cappelli, R. (2014). Relatedness, diversification and institutions in the EU-27. https://pick-me.carloalberto.org/images/PICKWP49.pdf
Briegel, F., & Bruinshoofd, A. (2015). Institutional quality in Europe: Diverging trends in challenging economic times. (No. 1/11). Rabobank Economic Research. webcache.googleusercontent.com/search?q=cache:iTS7EjEUG0oJ:https://economics.rabobank.com/publications/2015/may/institutional-quality-in-europe-diverging-trends-in-challenging-economic-times/+&cd=1&hl=tr&ct=clnk&gl=tr&client=firefox-b-ab
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Dawson, J. W. (1998). Institutions, investment, and growth: New Cross‐country and panel data evidence. Economic Inquiry, 36(4), 603-619. http://dx.doi.org/10.1111/j.1465-7295.1998.tb01739.x
Dawson, J. W. (2003). Causality in the freedom–growth relationship. European Journal of Political Economy, 19(3), 479-495. http://dx.doi.org/10.1016/S0176-2680(03)00009-0
Djankov, S., McLiesh, C., & Ramalho, R. M. (2006). Regulation and growth. Economics Letters, 92(3), 395-401. http://dx.doi.org/10.1016/j.econlet.2006.03.021
Edison, H. (2003). How strong are the links between institutional quality and economic performance? Finance and Development, 40(2), 35-37.
Efendic, A., Pugh, G., & Adnett, N. (2009). Institutions and economic performance: System GMM modelling of institutional effects in transition. Unpublished Paper, Staffordshire University Business School, Stoke-on-Trent, UK.Accessed June, 10, 2009.
Elbahnasawy, N. G., & Ellis, M. A. (2016). Economic structure and seigniorage: A dynamic panel data analysis. Economic Inquiry, 54(2), 940-965. http://dx.doi.org/10.1111/ecin.12298
Elhorst, J. P. (2010). Dynamic panels with endogenous interaction effects when T is small. Regional Science and Urban Economics, 40(5), 272-282. http://dx.doi.org/10.1016/j.regsciurbeco.2010.03.003
European Central Bank Economic Bulletin, (2017). Focus: Economic growth in the euro area is broadening. https://www.ecb.europa.eu/pub/pdf/other/eb201701_focus01.en.pdf?b4930fdb44a075c3388d9a5680845f72
European Economic and Social Committee. (2016). Factors for Growth: Priorities for Competitiveness, Convergence and Cohesion in the European Union. http://www.eesc.europa.eu/?i=portal.en.publications.39781
Fang, Y., & Zhao, Y. (2009). Do institutions matter? Estimating the effect of institutions on economic performance in China. http://dx.doi.org/10.2139/ssrn.1430330
Farole, T., Rodríguez‐Pose, A., & Storper, M. (2011). Cohesion policy in the European Union: Growth, geography, institutions. JCMS: Journal of Common Market Studies, 49(5), 1089-1111. http://dx.doi.org/10.1111/j.1468-5965.2010.02161.x
Fifeková, E., & Vondrová, A. (2016). Evaluation of institutional quality of selected EU transition economies and former Soviet Republics using DEA approach. Managing Innovation and Diversity in Knowledge Society through Turbulent Time: Proceedings of the Make Learn and TIIM Joint International Conference 2016, 1169-1179.
Glaeser, E. L., La Porta, R., Lopez-de-Silanes, F., & Shleifer, A. (2004). Do institutions cause growth? Journal of Economic Growth, 9(3), 271-303. http://dx.doi.org/10.1023/B:JOEG.0000038933.16398.ed
Hammermann, F., & Schweickert, R. (2005). EU Enlargement and Institutional Development: How Far Away are the EU's Balkan and Black Sea Neighbors?
Henisz, W. J. (2000). The institutional environment for economic growth. Economics & Politics, 12(1), 1-31. http://dx.doi.org/10.1111/1468-0343.00066
Heywood, A. (2002). Politics (2nd Ed.). New York: Palgrave Macmillan.
Islam, N. (1995). Growth empirics: A panel data approach. The Quarterly Journal of Economics, 110(4), 1127-1170. http://dx.doi.org/10.2307/2946651
Knack, S., & Keefer, P. (1995). Institutions and economic performance: Cross‐country tests using alternative institutional measures. Economics & Politics, 7(3), 207-227. http://dx.doi.org/10.1111/j.1468-0343.1995.tb00111.x
Le, T. (2009). Trade, remittances, institutions, and economic growth. International Economic Journal, 23(3), 391-408. http://dx.doi.org/10.1080/10168730903119443
Lu, Y., Png, I. P., & Tao, Z. (2013). Do institutions not matter in china? Evidence from manufacturing enterprises. Journal of Comparative Economics, 41(1), 74-90. http://dx.doi.org/10.1016/j.jce.2011.11.002
Masuch, K., Moshammer, E., & Pierluigi, B. (2016). Institutions, public debt and growth in Europe. https://www.ecb.europa.eu/pub/pdf/scpwps/ecbwp1963.en.pdf
Miller, T., & Kim, A. B. (2017). 2017 index of institute for economic freedom. http://www.heritage.org/index/about
Naim, M. (2000). Fads and fashion in economic reforms: Washington consensus or Washington confusion? Third World Quarterly, 21(3), 505-528. http://dx.doi.org/10.1080/01436590050057753
Nawaz, S. (2015). Growth effects of institutions: A disaggregated analysis. Economic Modelling, 45, 118-126. http://dx.doi.org/10.1016/j.econmod.2014.11.017
Nawaz, S., Iqbal, N., & Khan, M. A. (2014). The impact of institutional quality on economic growth: Panel evidence. Pakistan Development Review, 53(1), 15-31.
Nickell, S. (1981). Biases in dynamic models with fixed effects. Econometrica: Journal of the Econometric Society, 49(6), 1417-1426. http://dx.doi.org/10.2307/1911408
North, D. C. (1990). Institutions, institutional change and economic performance Cambridge University press.
OECD (2017), Investment (GFCF) (indicator). doi:10.1787/b6793677-en (Accessed on 21 December 2017)
Olson, M., Sarna, N., & Swamy, A. V. (2000). Governance and growth: A simple hypothesis explaining cross-country differences in productivity growth. Public Choice, 102(3-4), 341-364.
Pedersen, O. K. (2010). Institutional competitiveness: How nations came to compete. International Centre for Business and Politics. Conference proceeding http://dx.doi.org/10.1093/oxfordhb/9780199233762.003.0023
Popov, A. A. (2011). Output growth and fluctuations: The role of financial openness. https://www.ecb.europa.eu/pub/pdf/scpwps/ecbwp1368.pdf?6b83b88de1fbe83541e2e7410ab67e63
Robinson, J. A., & Acemoglu, D. (2012). Why nations fail: The origins of power, prosperity and poverty. Crown, New York,
Rodrik, D. (2006). Goodbye Washington consensus, hello Washington confusion? A review of the World Bank’s economic growth in the 1990s: Learning from a decade of reform. Journal of Economic Literature, 44(4), 973-987.
Roodman, D. (2009a). A note on the theme of too many instruments. Oxford Bulletin of Economics and Statistics, 71(1), 135-158. http://dx.doi.org/10.1111/j.1468-0084.2008.00542.x
Roodman, D. (2009b). How to do xtabond2: An introduction to difference and system GMM in stata. The Stata Journal, 9(1), 86-136.
Scully, G. W. (1988). The institutional framework and economic development. Journal of Political Economy, 96(3), 652-662. http://dx.doi.org/10.1086/261555
Slesman, L., Baharumshah, A. Z., & Ra'ees, W. (2015). Institutional infrastructure and economic growth in member countries of the Organization of Islamic Cooperation (OIC). Economic Modelling, 51, 214-226. http://dx.doi.org/10.1016/j.econmod.2015.08.008
Sondermann, D. (2016). Towards more resilient economies: The role of well-functioning economic structures. https://www.ecb.europa.eu/pub/pdf/.../ecbwp1984.en.pdf
Tamilina, L., & Tamilina, N. (2014). Heterogeneity in institutional effects on economic growth: Theory and empirical evidence. The European Journal of Comparative Economics, 11(2), 205-249.
Torres-Reyna, O. (2007). Panel data analysis fixed and random effects using stata (v. 4.2). Data & Statistical Services, Priceton University,
Tvrdon, M. (2012). Cohesion policy, convergence and regional disparities: The case of the European Union. WSEAS Transactions on Business and Economics, 9(2), 89-99.
Valeriani, E., & Peluso, S. (2011). The impact of institutional quality on economic growth and development: An empirical study. Journal of Knowledge Management, Economics and Information Technology, 1(6), 1-25.
Vieira, F., MacDonald, R., & Damasceno, A. (2012). The role of institutions in cross-section income and panel data growth models: A deeper investigation on the weakness and proliferation of instruments. Journal of Comparative Economics, 40(1), 127-140. http://dx.doi.org/10.1016/j.jce.2011.09.004
Vijayaraghavan, M., & Ward, W. A. (2001). Institutions and economic growth: Empirical evidence fron1 a cross-national analysis. Center for International Trade, http://ageconsearch.umn.edu/bitstream/112952/2/citpaper11.pdf
Williamson, C. R. (2009). Informal institutions rule: Institutional arrangements and economic performance. Public Choice, 139(3-4), 371-387. http://dx.doi.org/10.1007/s11127-009-9399-x
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