Does institutional quality foster economic complexity?

Vu, Trung V. (2019): Does institutional quality foster economic complexity?

Abstract

It is well established in the long-term development literature that deeply rooted institutions are the fundamental drivers of comparative prosperity across the world. This study contributes to this line of inquiry by investigating the extent to which the quality of institutions helps shape international differences in economic complexity – a novel measure of productive capabilities. More specifically, economic complexity corresponds to an enhanced capacity to produce and export a diverse range of sophisticated (high-productivity) products, which is highly predictive of future patterns of growth and development. The central hypothesis is that institutions are linked to higher degrees of economic complexity via strengthening incentives for innovative entrepreneurship, fostering human capital accumulation, and directing human resources towards productive activities. Employing data for up to 115 countries, I consistently obtain precise estimates of the positive effects of institutional quality, measured by the Economic Freedom of the World Index, on economic complexity. The findings highlight the important role of establishing well-functioning institutions in driving structural transformation towards productive activities, which contributes to alleviating the persistence of underdevelopment.

• Item Type: MPRA Paper
• Language: English
• Keywords: Institutions, Economic freedom, Economic complexity, Productive capabilities.
• Subjects: H - Public Economics > H1 - Structure and Scope of Government > H11 - Structure, Scope, and Performance of Government; O - Economic Development, Innovation, Technological Change, and Growth > O1 - Economic Development > O11 - Macroeconomic Analyses of Economic Development; O - Economic Development, Innovation, Technological Change, and Growth > O4 - Economic Growth and Aggregate Productivity > O43 - Institutions and Growth

References

Acemoglu, D. (1995). Reward Structures and the Allocation of Talent. European Economic Review, 39(1), 17-33.

Acemoglu, D., Gallego, F. A., & Robinson, J. A. (2014). Institutions, Human Capital, and Development. Annual Review of Economics, 6(1), 875-912.

Acemoglu, D., & Johnson, S. (2005). Unbundling Institutions. Journal of Political Economy, 113(5), 949-995.

Acemoglu, D., Johnson, S., & Robinson, J. A. (2001). The Colonial Origins of Comparative Development: An Empirical Investigation. American Economic Review, 91(5), 1369-1401.

Acemoglu, D., Johnson, S., & Robinson, J. A. (2005). Institutions as a Fundamental Cause of Long-Run Growth. In P. Aghion & S. N. Durlauf (Eds.), Handbook of Economic Growth (Vol. 1, pp. 385-472): Elsevier.

Acemoglu, D., Johnson, S., & Robinson, J. A. (2012). The Colonial Origins of Comparative Development: An Empirical Investigation: Reply. American Economic Review, 102(6), 3077-3110.

Acharya, A., Blackwell, M., & Sen, M. (2016). Explaining Causal Findings without Bias: Detecting and Assessing Direct Effects. American Political Science Review, 110(3), 512-529.

Albouy, D. Y. (2012). The Colonial Origins of Comparative Development: An Empirical Investigation: Comment. American Economic Review, 102(6), 3059-3076.

Alesina, A., Devleeschauwer, A., Easterly, W., Kurlat, S., & Wacziarg, R. (2003). Fractionalization. Journal of Economic Growth, 8(2), 155-194.

Altonji, J. G., Elder, T. E., & Taber, C. R. (2005). An Evaluation of Instrumental Variable Strategies for Estimating the Effects of Catholic Schooling. Journal of Human Resources, 40(4), 791-821.

Andersen, T. B., Dalgaard, C.-J., & Selaya, P. (2016). Climate and the Emergence of Global Income Differences. Review of Economic Studies, 83(4), 1334-1363.

Andrews, I., Stock, J. H., & Sun, L. (2019). Weak Instruments in Instrumental Variables Regression: Theory and Practice. Annual Review of Economics, 11(1), 727-753.

Ang, J. B. (2013). Institutions and the Long-Run Impact of Early Development. Journal of Development Economics, 105, 1-18.

Ang, J. B., Fredriksson, P. G., Nurhakim, A. L. B., & Tay, E. H. (2018). Sunlight, Disease, and Institutions. Kyklos, 71(3), 374-401.

Ang, J. B., & Madsen, J. B. (2011). Can Second-Generation Endogenous Growth Models Explain the Productivity Trends and Knowledge Production in the Asian Miracle Economies? Review of Economics and Statistics, 93(4), 1360-1373.

Arif, I. (2021). Productive Knowledge, Economic Sophistication, and Labor Share. World Development, 139, 105303.

Ashraf, Q., & Galor, O. (2013). The 'Out of Africa' Hypothesis, Human Genetic Diversity, and Comparative Economic Development. American Economic Review, 103(1), 1-46.

Baumol, W. J. (1990). Entrepreneurship: Productive, Unproductive, and Destructive. Journal of Political Economy, 98(5), 893-921.

Bazzi, S., & Clemens, M. A. (2013). Blunt Instruments: Avoiding Common Pitfalls in Identifying the Causes of Economic Growth. American Economic Journal: Macroeconomics, 5(2), 152-186.

Blundell, R., & Bond, S. (1998). Initial Conditions and Moment Restrictions in Dynamic Panel Data Models. Journal of Econometrics, 87(1), 115-143.

Bockstette, V., Chanda, A., & Putterman, L. (2002). States and Markets: The Advantage of an Early Start. Journal of Economic Growth, 7(4), 347-369.

Borcan, O., Olsson, O., & Putterman, L. (2018). State History and Economic Development: Evidence from Six Millennia. Journal of Economic Growth, 23(1), 1-40.

Carstensen, K., & Gundlach, E. (2006). The Primacy of Institutions Reconsidered: Direct Income Effects of Malaria Prevalence. World Bank Economic Review, 20(3), 309-339.

Carter, P., Van de Sijpe, N., & Calel, R. (2021). The Elusive Quest for Additionality. World Development, 141, 105393.

Casey, G., & Klemp, M. (2021). Historical Instruments and Contemporary Endogenous Regressors. Journal of Development Economics, 149, 102586.

Chenery, H. B., & Taylor, L. (1968). Development Patterns: Among Countries and over Time. Review of Economics and Statistics, 50(4), 391-416.

Conley, T. G., Hansen, C. B., & Rossi, P. E. (2012). Plausibly Exogenous. Review of Economics and Statistics, 94(1), 260-272.

Costinot, A. (2009). On the Origins of Comparative Advantage. Journal of International Economics, 77(2), 255-264.

Dias, J., & Tebaldi, E. (2012). Institutions, Human Capital, and Growth: The Institutional Mechanism. Structural Change and Economic Dynamics, 23(3), 300-312.

Dutta, S., Lanvin, B., & Wunsch-Vincent, S. (2020). Global Innovation Index 2020: Who Will Finance Innovation? (13th Edition). Cornell University, INSEAD, and WIPO.

Easterly, W., & Levine, R. (2003). Tropics, Germs, and Crops: How Endowments Influence Economic Development. Journal of Monetary Economics, 50(1), 3-39.

Felipe, J., Kumar, U., Abdon, A., & Bacate, M. (2012). Product Complexity and Economic Development. Structural Change and Economic Dynamics, 23(1), 36-68.

Gao, J., & Zhou, T. (2018). Quantifying China’s Regional Economic Complexity. Physica A: Statistical Mechanics and its Applications, 492, 1591-1603.

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.

Gwartney, J. D., Holcombe, R. G., & Lawson, R. A. (2004). Economic Freedom, Insitutional Quality, and Cross-Country Differences in Income and Growth. Cato Journal, 24, 205-233.

Gwartney, J. D., Holcombe, R. G., & Lawson, R. A. (2006). Institutions and the Impact of Investment on Growth. Kyklos, 59(2), 255-273.

Hartmann, D., Guevara, M. R., Jara-Figueroa, C., Aristarán, M., & Hidalgo, C. A. (2017). Linking Economic Complexity, Institutions, and Income Inequality. World Development, 93, 75-93.

Hausmann, R., & Hidalgo, C. A. (2011). The Network Structure of Economic Output. Journal of Economic Growth, 16(4), 309-342.

Hausmann, R., Hidalgo, C. A., Bustos, S., Coscia, M., Simoes, A., & Yildirim, M. A. (2014). The Atlas of Economic Complexity: Mapping Paths to Prosperity. Cambridge, MA: The MIT Press.

Hausmann, R., Hwang, J., & Rodrik, D. (2007). What You Export Matters. Journal of Economic Growth, 12(1), 1-25.

Hausmann, R., & Rodrik, D. (2003). Economic Development as Self-Discovery. Journal of Development Economics, 72(2), 603-633.

Hibbs, D. A., & Olsson, O. (2004). Geography, Biogeography, and Why Some Countries Are Rich and Others Are Poor. Proceedings of the National Academy of Sciences, 101(10), 3715.

Hidalgo, C. A. (2021). Economic Complexity Theory and Applications. Nature Reviews Physics, 3(2), 92-113.

Hidalgo, C. A., & Hausmann, R. (2009). The Building Blocks of Economic Complexity. Proceedings of the National Academy of Sciences, 106(26), 10570-10575.

Hidalgo, C. A., Klinger, B., Barabasi, A. L., & Hausmann, R. (2007). The Product Space Conditions the Development of Nations. Science, 317(5837), 482-487.

Kaldor, N. (1967). Strategic Factors in Economic Development. New York: Cornell University Press.

Kannen, P. (2020). Does Foreign Direct Investment Expand the Capability Set in the Host Economy? A Sectoral Analysis. World Economy, 43(2), 428-457.

Kraay, A. (2016). Weak Instruments in Growth Regressions: Implications for Recent Cross-Country Evidence on Inequality and Growth. World Bank Policy Research Working Paper No. 7494.

Kraay, A. (2019). The World Bank Human Capital Index: A Guide. World Bank Research Observer, 34(1), 1-33.

Kuznets, S., & Murphy, J. T. (1966). Modern Economic Growth: Rate, Structure, and Spread. New Haven: Yale University Press.

La Porta, R., Lopez-de-Silanes, F., & Shleifer, A. (2008). The Economic Consequences of Legal Origins. Journal of Economic Literature, 46(2), 285-332.

La Porta, R., Lopez-de-Silanes, F., Shleifer, A., & Vishny, R. (1999). The Quality of Government. Journal of Law, Economics and Organization, 15(1), 222-279.

Lapatinas, A. (2019). The Effect of the Internet on Economic Sophistication: An Empirical Analysis. Economics Letters, 174, 35-38.

Lapatinas, A., & Litina, A. (2019). Intelligence and Economic Sophistication. Empirical Economics, 57(5), 1731-1750.

Lee, K.-K., & Vu, T. V. (2020). Economic Complexity, Human Capital and Income Inequality: A Cross-Country Analysis. Japanese Economic Review, 71(4), 695-718.

Lewis, W. (1955). The Theory of Economic Growth. London: George Allen & Unwin.

Liang, M.-Y. (2010). Confucianism and the East Asian Miracle. American Economic Journal: Macroeconomics, 2(3), 206-234.

Maseland, R. (2021). Contingent Determinants. Journal of Development Economics, 151, 102654.

Murphy, K. M., Shleifer, A., & Vishny, R. W. (1991). The Allocation of Talent: Implications for Growth. Quarterly Journal of Economics, 106(2), 503-530.

Murphy, K. M., Shleifer, A., & Vishny, R. W. (1993). Why Is Rent-Seeking So Costly to Growth? American Economic Review, 83(2), 409-414.

Natkhov, T., & Polishchuk, L. (2019). Quality of Institutions and the Allocation of Talent: Cross-National Evidence. Kyklos, 72(4), 527-569.

Nikolaev, B., & Salahodjaev, R. (2017). Historical Prevalence of Infectious Diseases, Cultural Values, and the Origins of Economic Institutions. Kyklos, 70(1), 97-128.

North, D. C. (1990). Institution, Institutional Change and Economic Performance. Cambridge: Cambridge University Press.

Nunn, N. (2020). The Historical Roots of Economic Development. Science, 367, 9986.

Olea, J. L. M., & Pflueger, C. (2013). A Robust Test for Weak Instruments. Journal of Business & Economic Statistics, 31(3), 358-369.

Oster, E. (2019). Unobservable Selection and Coefficient Stability: Theory and Evidence. Journal of Business & Economic Statistics, 37(2), 187-204.

Rodrik, D., Subramanian, A., & Trebbi, F. (2004). Institutions Rule: The Primacy of Institutions over Geography and Integration in Economic Development. Journal of Economic Growth, 9(2), 131-165.

Romero, J. P., & Gramkow, C. (2021). Economic Complexity and Greenhouse Gas Emissions. World Development, 139, 105317.

Rostow, W. W. (1959). The Stages of Economic Growth. Economic History Review, 12(1), 1-16.

Sachs, J. (2003). Institutions Don't Rule: Direct Effects of Geography on Per Capita Income. NBER Working Paper 9490.

Spolaore, E., & Wacziarg, R. (2009). The Diffusion of Development. Quarterly Journal of Economics, 124(2), 469-529.

Spolaore, E., & Wacziarg, R. (2013). How Deep Are the Roots of Economic Development? Journal of Economic Literature, 51(2), 325-369.

Sweet, C. M., & Maggio, D. S. E. (2015). Do Stronger Intellectual Property Rights Increase Innovation? World Development, 66, 665-677.

Vu, T. V. (2019). Does Institutional Quality Foster Economic Complexity? University of Otago Economics Discussion Papers No. 1909.

Vu, T. V. (2020). Economic Complexity and Health Outcomes: A Global Perspective. Social Science & Medicine, 265, 113480.

Vu, T. V. (2021a). Climate, Diseases, and the Origins of Corruption. Economics of Transition and Institutional Change, forthcoming.

Vu, T. V. (2021b). Does LGBT Inclusion Promote National Innovative Capacity? Social Science Research Network Paper No. 3523553.

Vu, T. V. (2021c). Statehood Experience and Income Inequality: A Historical Perspective. Economic Modelling, 94, 415-429.

Zhu, S., & Fu, X. (2013). Drivers of Export Upgrading. World Development, 51, 221-233.

Zhu, S., & Li, R. (2017). Economic Complexity, Human Capital and Economic Growth: Empirical Research Based on Cross-Country Panel Data. Applied Economics, 49(38), 3815-3828.