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The relationship between political instability and economic growth in advanced economies: Empirical evidence from a panel VAR and a dynamic panel FE-IV analysis

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  • Dirks, Maximilian
  • Schmidt, Torsten

Abstract

This paper analyzes the relationship between political instability and economic growth in advanced economies. Using a panel of 34 advanced economies from 1996 to 2020, we first employ a panel VAR estimated via System GMM, which allows us to explore the endogenous relationship between economic growth and political instability and to identify potential transmission channels. Second, we use an instrumental variable approach that exploits variation in median temperature and spillover effects of political instability from culturally approximate countries to establish causality. The empirical results suggest that political instability reduces GDP by 4 to 7 % five years after the shock, mainly through lower investment and consumption. A one standard deviation increase in economic growth reduces political instability by half a standard deviation, five years after the shock.

Suggested Citation

  • Dirks, Maximilian & Schmidt, Torsten, 2023. "The relationship between political instability and economic growth in advanced economies: Empirical evidence from a panel VAR and a dynamic panel FE-IV analysis," Ruhr Economic Papers 1000, RWI - Leibniz-Institut für Wirtschaftsforschung, Ruhr-University Bochum, TU Dortmund University, University of Duisburg-Essen.
    • Handle: RePEc:zbw:rwirep:1000
    DOI: 10.4419/96973166
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    More about this item

    Keywords

    Political instability; economic growth; panel VAR; system GMM; Panel IV; local projection;
    All these keywords.

    JEL classification:

    • C33 - Mathematical and Quantitative Methods - - Multiple or Simultaneous Equation Models; Multiple Variables - - - Models with Panel Data; Spatio-temporal Models
    • C26 - Mathematical and Quantitative Methods - - Single Equation Models; Single Variables - - - Instrumental Variables (IV) Estimation
    • O43 - Economic Development, Innovation, Technological Change, and Growth - - Economic Growth and Aggregate Productivity - - - Institutions and Growth
    • P16 - Political Economy and Comparative Economic Systems - - Capitalist Economies - - - Capitalist Institutions; Welfare State

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