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Department of Economics, University of Basle, Switzerland. Tel: +41 61 2673367, Fax: +41 61 267 33 33. For helpful comments I would like to thank Tamim Bayoumi, Mark DeBroeck, Oleh Harvylyshyn, and Peter Sturm. This paper was originally prepared as a background paper for the Fall 2000 World Economic Outlook of the International Monetary Fund.
Mauro (1995), Knack and Keefer (1995) Brunetti and Weder (1998) study of large samples of countries and find that institutional performance impacts on investment and growth. Brunetti, Kisunko and Weder (1997) and Havrylyshyn, and van Rooden (2000) investigate transition economies and find a positive impact of institutions on FDI and growth (respectively). The results of the latter paper are consistent with the view that at first stabilization and good policy stimulate recovery, but sustained growth requires adequate pari passu development of institutions, which becomes more important over time.
Another dimension that is not in the scope of this paper, but which could easily be addressed with a similar methodology are structural reforms, which include inter alia the degree of privatization, the degree to which the domestic financial system has been developed, the working of central banks etc.
The indicators are called “Voice and Accountability,” “Political Instability and Violence,” “Government Effectiveness,” “Regulatory Burden,” “Rule of Law,” and “Graft.” In most of the paper I use five of the six variables, leaving aside the most political variable, “Political Instability and Violence.” Each indicator is based on a combination of component indicators and the aggregation is performed with an unobserved components model (which expresses the observed data as a linear function of the unobserved common component of governance, plus a disturbance term capturing perception error and/or sampling variation in each indicator). See Kaufmann, Kraay, and Zoido Lobaton (1999a, p. 9).
Some interesting side results are that LATIN countries, as a group, have significantly less regulatory burden and are more accountability than predicted by their income, but have a significantly low ratings in terms of rule of law. INDUstrialized countries have more accountability even than predicted by their high income and EastASIAn countries are not special in any dimension except for Regulatory Burden, where they show significantly more.
See e.g. Shleifer and Vishny (1995). For surveys of corruption and development see Bardhan (1997) or Tanzi (1994). Wolf and Gürgen (2000) give some actual examples of corruption and poor governance in transition
This many be an interesting results in itself since income and institutional quality are mostly thought to go hand in hand. However it does not apply for the poorest countries and this is robust for most measures of institutional quality and both, in samples including and excluding transition countries.
In the table countries are presented in alphabetical order (on top the transition economies—in gray and below all other countries) since there is no particular ranking within each cluster. In addition to the “standard” PP indicators here I also included an indicator of political instability. The results are for the transition economies are sensitive to exclusions of this variable only in two cases: Turkmenistan and Uzbekistan are in the group of the poorest performers if we only consider the standard five PP indicators.
The number of clusters was determined using an explorative hierarchical cluster analysis.
In other world that classification fit is best (and this criterion is zero) when the number of clusters is equal to the number of countries.
An alternative classification, according to this criterion, would be one which considers only three clusters. But this would come at the cost more heterogeneity within each cluster.
If the correction for the level of income is not made and instead the raw indicators are used we find all of these economies in the second cluster.