Do Institutions Cause Growth?

Edward Glaeser, Rafael La Porta, Florencio Lopez-de-Silanes, Andrei Shleifer

Context of Paper

Recent literature: good institutions are important necessary conditions for growth

This paper brings us back to human capital and questions some basic assumptions made in such literature

Policies, a choice or consequence? 2 ways of thinking about growth and its relation to

institutions/democracy1) Democracy as a necessary condition to growth

• Democracy secures property rights More investments in capital, human capital, etc. Economic growth!!

2) Democracy as a result of growth• Capital and human capital increase (through policies, not institutions)

• even dictators can secure property rights by choice

More negotiation/voting and less violence to resolve conflicts because of education

• Education is necessary for courts to operate, public engagement in politics

Eventually democracy because increased education and wealth

Case study: N. Korea vs. S. Korea

Order of presentation1. Critique of measures of “institutions”2. Discuss OLS evidence on relationship

between institutions, human capital, and growth.

3. Examine universe of poor countries in 1960 to find education level and institutional environment

4. Discuss AJR and their instruments5. Revisit human capital accumulation vs.

institutional quality by looking at timing6. Conclusion

II. Measurement of Institutions Institutions:

“a set of rules, compliance procedures, and moral and ethical behavioral norms designed to constrain the behavior of individuals in the interests of maximizing the wealth or utility of principals.” (North, 1981)

Need permanent/durable constraints

Are measures of institutions used in recent literature valid measures with this definition in mind?

Measures of Institutions International Country Risk Guide Kaufmann et al. (2003) Polity IV dataset

1. Measures of outcomes and not of permanent constraints

2. First two measures: dictators choosing “good” policies = governments who must

3. Uncorrelated with other available constitutional measures of constraints on government

Measures of Institutions:International Country Risk Guide

Survey of risk assessment for international investors

Measures “law and order,” “bureaucratic quality,” “corruption, “risk of expropriation by gov’t,” etc.

Clearly not a measure of durable institutions providing constraints

Measures of Institutions: Kaufmann et al. (2003)

Measures “government effectiveness” by combining “perceptions of the quality of public service provision, the quality of the bureaucracy, the competence of civil servants, the independence of the civil service from political pressures, and the credibility of the government’s commitment to policies into a single grouping.”

again, clearly ex post outcomes

Measures of Institutions: Polity IV - 1

“Constraints on the executive” measures “the extent of institutionalized constraints on the decision-making powers of chief executives, whether individuals or collectivities.”

“Democracy” measures “the presence of institutions and procedures through which citizens can express effective preference about alternative policies and leaders, the existence of institutional constraints of the exercise of power by the executive, and the guarantee of civil liberties to all citizens in their daily lives and in acts of political participation.”

But is volatile according to electoral outcomes

Measures of InstitutionsPolity IV - 2

Measures of InstitutionsPolity IV - 3

Measures of Institutionsother options

“plurality” “proportional representation” “judicial independence”: permanency

in office of supreme court judges “constitutional review”: extent of

judicial review of the constitution

Measures of Institutions

III. OLS on institutions, human capital, and growth

OLS

IV. Poor countries in 1960

V. Instrumental Variables

Use instrumental variables to try and address problem of reverse causality

“distance from the equator and the extent to which the primary languages of Western Europe are spoken today” (Hall and Jones, 1999)

Legal transplantation (La Porta et al, 1997, 1998, 1999)

Mortality of European settlers (AJR, 2001)

Instrumental VariablesValidity of AJR’s instrument?

Did the Europeans bring institutions or their know-how and human capital?

Weak correlation between settler mortality and plurality and proportional representation

Correlation between early settler mortality and modern disease environment

Instrumental Variablescorrelation with schooling in 1960

VI. Schooling or institutions first? By using lagged values of variables, should be able to

predict outcome.

Schooling then Institutions

Conclusion The human capital of the society, as well as efficiency,

history, and politics, largely determine institutional opportunities

Institutional outcomes tend to improve with economic growth as opportunities improve

Current strategies to measure “institutions” are flawed

Do not support view that democratization and constraints on government must come first

More likely that countries can accumulate human and physical capital under dictators and then improve institutions as they become richer