Democratic Transitions and Institutional Change: What's Behind the Association?

Abstract

Many empirical studies have shown democracies to be more supportive of sound economic institutions than authoritarian regimes and recent analysis also finds that democratic transitions are followed by overall improvements in economic freedom. This sheds some light on a possible chain of causality, but up to date it is virtually unknown through which channel democracy actually creates institutional improvements. Employing a dataset by Cheibub et al. (2010), we identify 41 political transitions to democracy since the mid-1970s, for which measures on economic institutions and policies are also available. Panel data analysis is used to examine the outcome of democratization within the framework of a fixed- and random-effects model. To control for possible endogeneity, the paper further employs an instrument for democratic transitions, based on observations by Huntington (1991). Results mainly indicate that stable transitions to democracy are followed by strongly improved access to sound money, while unstable transitions seem to impede it. We further find evidence that the improved access to sound money is driven by the installation of more independent central banks in newly established electoral democracies.

Keywords: Political regimes, Democratization, Economic institutions, Instability

JEL Classification: O43, P51