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Democracy and government spending

Balamatsias, Pavlos (2018): Democracy and government spending.

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In this paper, we argue that democracies positively affect government expenditure. We hypothesize that democracies produce more public goods for their citizens because they are better at using tax revenues, while autocracies misappropriate taxes. We empirically test the validity of this argument using data on 61 countries from 1993 to 2012. The explanatory variable used is a dichotomous measure of democracy, but we alter our analysis from earlier research by assuming that democracy is not an exogenous variable based on the theory of Huntington (1991) and the methodology of Acemoglu, Naidu, Restpero and Robinson (2014) and Balamatsias (2017a) about regional democratization waves. According to this theory, democratization occurs in regional waves; consequently, diffusion of demand for or discontent with a political system is easier to happen in countries in the same area due to socio-political and historical similarities. This measure shows us that demand for or discontent with a political system in a geographical area influences the power of a country’s political regime and its effect on government policies. Our results using a number of estimations and robustness tests show us that regional democratization waves positively correlate with democracy. Furthermore, our main 2SLS regression as well as our OLS, fixed effects and GMM estimations show us that democracy increases production of public goods and services and education spending. When controlling for a smaller dataset, without African and Middle-eastern countries our first-stage results remain the same and the positive effect of democracy on government spending is now quantitatively bigger suggesting wealthier democracies produce more public goods and services when compared to poorer ones. This hypothesis is further substantiated when we use a sample consisting of non-OECD countries and find that democracy has no effect on government spending. Our results show that democracies where large segments of the population belong in the middle-income class, vote in favour of these policies because they can utilize government spending to increase production and output, lower inequality and attract foreign capital, unlike poorer democracies.

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