The Macroeconomics Consequences of the Political Instability 

Abstract

This paper examines the macroeconomic consequences of political instability using panel data on more than 180 countries from 1960 to 2022. I treat political instability as an uncertainty shock and organize twelve macroeconomic outcomes into a transmission chain that runs from economic performance to macroeconomic stability and, finally, to welfare. Using dynamic panel regressions and local projections, I find that a one-standard-deviation increase in instability lowers economic growth by about two percentage points on impact and also reduces total factor productivity and foreign direct investment. The shock then raises inflation by roughly two and a half percentage points and increases unemployment with a delay, while its effects on income inequality and poverty are weak and imprecisely estimated. The effects differ in persistence: growth and foreign investment recover within a few years, whereas the loss of total factor productivity and the rise in unemployment do not. Pre-event coefficients are flat, providing no evidence of anticipation or reverse causality. The growth cost of instability is smaller in democracies and in politically free countries, consistent with institutions acting as a shock absorber. An alternative measure based on prime ministerial turnover yields similar conclusions.

Keywords: Political Instability, Macroeconomic Environment, Human Capital

JEL Classification: D72, E24, O17