A Modification of the Production Function for Transition Economies Reflecting the Role of Institutional Factors

Abstract

This paper constructs an institutional index of transition (IIT) for the FSU countries, estimates their statistics on output, capital stock, and employment, incorporates the IIT into the neoclassical production function, and estimates the modifications of the production function with effects of explanatory variables varying across countries. The IIT is based on the EBRD transition indicators but differs from the indicators' average annual value in that it incorporates the private sector share of GDP. Using panel data and building production function modifications with common and country-specific effects, the following hypotheses were tested: quantitative changes in production factors affect all FSU countries in a similar way, the impact of the IIT varies across countries, initial conditions are significant in transition, and the estimators are not sensitive to data fluctuations.