Economic Development Under Crises: An Econometric Analysis

Economic

Development

under Crises—An

Econometric Analysis

Henry O. Akintunde

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First published by AuthorHouse 4/5/2011

ISBN: 978-1-4567-4226-3 (sc)

ISBN: 978-1-4567-4227-0 (e)

ISBN: 978-1-4567-4228-7 (hc)

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Contents

Preface

Chapter 1

Introduction

Chapter 2

Some Stylized Facts

Chapter 3

Overview of Eco-Political Environment of Sub-Saharan Africa

Chapter 4

Political Instability and Economic Development – Econometric Analysis

Chapter 5

Political Instability and Economic Development — Estimations and Results

Chapter 6

Differential Effects of Political Instability Across Sectors — Estimation and Results.

Chapter 7

Summary

Preface

Economists have actively engaged in a search for theories that may explain economic development, or the lack thereof, since the time of the classical era. It has since been realized that economic development is beyond the domain of economists only, because the subject runs beyond the confines of economic analysis.

There have been mixed reports as to the state of economic development around the world. The growth of nations has been ascribed to one theory of development or another. Likewise, those nations that experience abysmal growth record have been pinned down to improper application of mainstream economic theories. All variables identified in mainstream traditions cannot be neatly arranged in a cause-and-effect relationship, and this difficulty prevents the formulation of a general theory of development. Instead, researchers concentrate upon a relatively small number of variables that they believe especially important in determining the rate of development. To the extent that conditions vary from country to country and from time to time, existing theories must be modified and expanded.

There is no doubt that economy and polity interact in many ways with respect to resource allocation, income distribution, and stabilization policies. For these obvious reasons, neither the economy nor the polity can be looked at in isolation. Many decision-makers do not have the political will to embark on the kind of macroeconomic policies that may bring about development, simply because these policies are not politically popular domestically. Since many of these countries do not have domestic resources to pursue required macroeconomic policies capable of generating growth, they have to rely on international financial institutions to provide funds, which often come with conditionalities. For those economies that are politically stable, external funds can jumpstart their distressed economies and put them on a sustainable growth path.

Economic Development under Crises—An Econometric Analysis examines the crises that politically unstable economies face and the impact of such instability on economic development. The book begins with theoretical overview of relationship between polity and economy. The thrust of the book, however, is a time-series cross-section evaluation of effects of political instability on economic development of thirty sub-Saharan African countries between 1967 and 1987. First it explores the relationship in aggregates using a pooled data and then extends the investigation to see the specific effect on those countries whose data are obtainable for estimation. Later in the book, the analysis focuses on the disaggregation of the measure of economic development into sectors, to explore the differential effects that political instability might have on each sector. This is accomplished by first using a pooled data and later extending the analysis to individual countries in the sample.

In the book, the proposition is to test two distinct hypotheses. The first hypothesis is that the effect of political instability on economic development is deleterious and negative. A second hypothesis, that political instability has differential effects across sectors, is examined later. The first hypothesis is similar to those in other studies that have attempted to investigate the relationship between political instability and economic development, even though there has been very little attention given to this type of investigation. So far, an empirical study that attempts to investigate the differential effects of political instability on the principal sectors of the economy is a relatively new area.

This book examines the direction of causality and finds that political instability causes underdevelopment, among other things. It is also interesting to find that the deleterious effect of political instability is different across sectors. The reader will discover that a few countries appear to have benefited from the instability conditions, even though stability would be preferred.

I would like to extend my special thanks to my graduate students at the university and the United Nations Certificate Program who encouraged the publication of this book, as it provides insights to policy formulation and resource allocation. Human capital accumulation and capacity-building efforts are better accomplished in a relatively stable political environment.

I am especially grateful to my parents, who gave me the opportunity and encouragement to fulfill my dream. Above all, I am indebted to my wife and kids, who sacrificed so much during my study days and time in preparing for this book. So, this is for you—Grace, Kalesia, Kimberly, Tracy, Henry Jr., and Moses.

—H.O.A.

Chapter 1

Introduction

AFrica, from all accounts, has been a difficult region to analyze. Many observers tend to make proclamations and prognostications on the continent as if it were a relatively small country that a simple macroeconomic model or political ideology can define. As an analyst, one must resist the temptation of making any prediction about the future of the continent, whether apocalyptic or full of optimism. The record since independence for most extrapolates to project the coming of apocalypse. Considering the degree of political instability in the region, an assertion of political transformation and economic resurgence at a sustainable level would be a poor calculation.

The current socioeconomic situation in Africa as a continent is precarious. The continent faces multiple crises, including those of religion, politics, and economics. Each crisis is significant in its own right, and together they are mutually reinforcing. One begins to wonder if the leaders have the will and/or the means to put the continent on a growth trajectory and once and for all address the wide spectrum of inextricably linked development issues. While the significance of politics on religion or vice versa is recognized, what is more crucial is the impact of politics on economy and vice versa. This relationship between politics and economy deserves a little mention.

The economy and the polity interact in many ways with respect to resource allocation, income distribution, and stabilization policies. For these obvious reasons, neither the economy nor the polity can be looked at in isolation. Many of the decision-makers do not have the political will to embark on the kind of macroeconomic policies that may bring about development, simply because these policies are not politically popular domestically. Equally important, these countries do not have domestic resources to pursue required macroeconomic policies capable of generating growth. Hence, they rely on international financial institutions to provide funds, which often come with conditionalities. For those leaders with political will, external funds can jumpstart their distressed economies and put them on a sustainable growth path.

Bruno Frey (1983) identified the interdependence of economy and polity: The economy and polity formed a closed system with the two parts linked by feedback. Accordingly, … the upper link shows political intervention working on the economy; and the lower link shows the influence of economic conditions on the political sector (Ibid., 9).

There are lots of bits and pieces of evidence to support the fact that politics in general does affect economic development. At least everyone—governments and international lending institutions included—believes that policies affect growth, and in turn, scholars tend to think that politics affect policies (Przeworski and Limongi, 1993, 65). Also, Reynolds (1983), having reviewed the historical experience of several countries, concluded that spurts of growth are often associated with major political transformation. A reversed argument can be made in the sense that the political instability that plagues the region has been responsible for the deleterious growth pattern experienced in the last forty years by many of the countries. Even in cases where there were stable dictatorships, the deleterious effect of long-term dictatorship is just as inimical to growth as those of several military interventions. Certainly the issue of direction of causality cannot be ignored, whether economic development drives regime change or whether it is the stability of political regime that drives economic development. Again Przeworski and Limongi, (p. 62), asserted that the reason social scientists have little robust statistical knowledge about the impact of regimes on growth (or growth on regime, for that matter) is that the research design required to generate knowledge is complex (Ibid.).

Since independence, many of the countries in the region have formulated numerous initiatives and implemented several reforms aiming to put them on a development path. Yet, in general, the outcome is abysmal because the leaders lack the political fortitude to carry the reforms to their natural conclusion. It is recognized, however, that the aggregate data on economic performances will vary from one country to another because reform measures, resource inflows, and political climates will also vary. In most cases, rather than citing leadership incompetency as the fundamental reason for failure to fully implement reforms, it is convenient to blame the abysmal performance on lack of resources. Usually, the domestic resources component of the funds necessary for implementation falls short of projections, due to a host of reasons that are also traced to inept management.

Assuming it is not a lip service, the concerted efforts being made by African leaders through proclamations at various summits regarding precarious socioeconomic conditions show that the region is ready to pursue measures that can put the continent on the growth path and subsequently, toward a sustainable economic development. Again history has taught us not to be too optimistic about any positive transformation, as the analysis of the region cannot be constructed by simple economic and or political models.

Chapter 2

Some Stylized Facts

2.1   On Institutional Structure

Mankind has made great material progress in modern times, and much of this progress has been affected by the choice of the institutional framework designed to bring it about. The Western industrial economies and many other former colonies chose an institutional framework that permitted wide latitude for individual initiative, choice, and responsibility. In general, these countries are capitalist and democratic and are committed to the rule of law.

It is a generally observed phenomenon that the rising nationalism and independence movement after World War II gave many new nations the opportunity to choose an institutional framework by which they could progress. In some cases, what became a fashionable idea was state control and economic planning, with a concomitant de-emphasis, if not denigration, of individual initiative. Many nations selected this route for economic development. As Scully (1988) pointed out, there are two contrasting paradigms that point to the path by which men progress economically: individualism and statism. Both paradigms are old and still debated. That the state direction leads to material progress is the older vision. The wisdom of the state in creating the conditions for material progress through intervention and regulation was first articulated systematically by the mercantilists. In modern times, state intervention is justified by the vicious circle of poverty thesis. Albeit this thesis has been advanced by many writers, it has been elaborated substantially by Myrdal (1957, 1968).

The contrasting vision that Scully pointed out is that material progress is greatest if individuals have the right to pursue their own affairs without state intervention. The conceptualization of society as a nexus of private arrangements that are mutually beneficial is contained in the contractarian political theory of David Hume, the concept of law as sanctioned private arrangements by Sir Edward Coke, and the economic theory and policy of laissez-faire by Adam Smith. The great concern of the twentieth century, after the reconstruction of the war-ravaged economies and the restoration of the international economic order, has been the improvement in the standard of living of the underdeveloped nations. The fashionable view was that the gap between the rich and poor nations was caused by a vicious circle of poverty that