Skip to main content
SpringerLink
Log in

Do democracies have higher current account deficits?

  • Original Paper
  • Published:
Constitutional Political Economy Aims and scope Submit manuscript

Abstract

In this paper we argue that democracies tend to run (larger) current account deficits than autocracies. Our argument is based on the different incentives faced by democratic and autocratic leaders. The main theoretical hypothesis is tested on a dataset of 121 countries over the period 1980–2012, using 5 year averages and a fixed effects panel data model. Special focus is given on the issue of endogeneity by estimating an IV Fixed Effects model. Relying on the idea of the regional waves of democratization and the special role of the Christian Church on the third wave of democratization, we use as instruments of Democracy the level of democracy in neighboring countries and also the share of Christian adherents in each country. Both instruments turn out to be valid determinants of democracy. The empirical findings suggest that autocracies run lower current account deficits than democracies. These results are found to be robust across alternative empirical specifications.

This is a preview of subscription content, log in via an institution to check access.

Access this article

Log in via an institution

Price excludes VAT (USA)
Tax calculation will be finalised during checkout.

Instant access to the full article PDF.

Institutional subscriptions

Fig. 1

Similar content being viewed by others

Notes

  1. These measures included for example the full exporting of all Romania’s agricultural goods, which of course led to huge decline in the standard of living of the whole population (Mungiu-Pippidi 2001). In our sample the average current account balance over GDP for Romania before democratization run on 1.61%, implying a non negligible current account surplus. After the fall of communism and the democratization of the country the respective number to − 6.12%. Even if we take the years after 2000, when democracy appears more consolidated, the average current account deficit in Romania is 1.41% of GDP.

  2. Positive values of the variable imply current account surplus whereas negative ones imply deficit.

  3. Since we found Oil Rents to be highly correlated with Democracy, we made the two variables orthogonal by regressing Democracy on the share of Oil Rents to GDP and used the residuals as the variable Oil Rents. For the relationship between Oil endowments and dictatorship see also Crespo Cuaresma et al. (2011).

  4. According to Chinn and Ito (2007) “...a global saving glut argument views excess saving from Asian emerging market countries, driven by rising saving and collapsing investment in the aftermath of the financial crisis (and to a lesser extent Europe), as the cause of the U.S. current account deficit...” (Chinn and Ito 2007, p. 248).The financial deepening hypothesis on the other hand suggests that financial development leads to higher investment and, thus, to lower current account deficit.

  5. In the tables that follow we present the results of a linear effect of relative income on \(cab_{i,t}\). We have estimated the same model with a squared term and found that the non-linear effect turned out statistically insignificant. As this did not affect our main results, we opted for a linear specification regarding the relative income variable.

  6. The Hausman for Fixed versus Random Effects is given in the last line of Table 2. The Random Effects model is clearly rejected in favor of the Fixed Effects model.

  7. Which in our sample is equal to 6.6.

  8. We have also estimated our baseline model in an annual dataset and found the same effect of polity to the 1% level of statistical significance. These results are available from the authors.

  9. There are no instances of countries with a polity score equal to − 10.

  10. This may be attributed to the significant decline in the observations.

  11. The only exception to the above statement being the variables which measure the Real Effective Exchange Rate and the Private Credit as % of GDP.

  12. Although the coefficient is half in size, we can’t reject the hypothesis that the two coefficients are not equal because the estimated confidence intervals are overlapping.

  13. We consider as floating regimes, the crawling band, managed floating or freely floating regimes (see Ilzetzki et al. 2017 for more details).

  14. As available online on http://www.thearda.com/Archive/Files/Descriptions/WRDNATL.asp.

  15. As we have a Fixed Effects IV model the instrument must exhibit high within variation. The within standard deviation of the share of Christian adherents variable in our sample is 0.15 with an associated coefficient of variation equal to 0.3056. When we performed a t-test it turned out that we can reject the hypothesis of a zero Coefficient of Variation at the 1% of statistical significance, therefore we do not have enough evidence that there is no variability in the instrument.

  16. We have examined other instruments along the same line as well, for example the share of protestants, share of Jewish adherents etc. In all cases the correlation coefficient with Democracywas rather lower than the instruments used here. More importantly all tests for the validity of instruments rejected the use of this latter set of instruments.

  17. The Kleibergen–Paap Wald test suggests that all our instruments are strong and also F test indicates that our IV model is not weakly identified.

References

  • Acemoglu, D., Johnson, S., Robinson, J. A., & Yared, P. (2008). Income and democracy. American Economic Review, 98(3), 808–842.

    Article  Google Scholar 

  • Acemoglu, D., Naidu, S., Restrepo, P., & Robinson, J. A. (2014, March). Democracy does cause growth. Working paper 20004, National Bureau of Economic Research.

  • Acemoglu, D., & Robinson, J. (2006). Economic origins of dictatorship and democracy. Cambridge: Cambridge University Press.

    Google Scholar 

  • Adam, A., & Filippaios, F. (2007). Foreign direct investment and civil liberties: A new perspective. European Journal of Political Economy, 23(4), 1038–1052.

    Article  Google Scholar 

  • Adam, A., & Moutos, T. (2017). The modality of fiscal consolidation and current account adjustment. CESifo Economic Studies, 63(2), 162–181.

    Article  Google Scholar 

  • Aidt, T. S., & Jensen, P. S. (2013). Democratization and the size of government: Evidence from the long 19th century. Public Choice, 157(3), 511–542.

    Article  Google Scholar 

  • Alesina, A., & Drazen, A. (1991). Why are stabilizations delayed? American Economic Review, 81(5), 1170–1188.

    Google Scholar 

  • Amin, M., & Djankov, S. (2014). Democratic institutions and regulatory reforms. Journal of Comparative Economics, 42(4), 839–854.

    Article  Google Scholar 

  • Anderson, G. M. (1988). Public finance in autocratic process: An empirical note. Public Choice, 57(1), 25–37.

    Google Scholar 

  • Apolte, T. (2016). Gordon Tullock’s theory of revolution and dictatorship. Constitutional Political Economy, 27(2), 158–178.

    Article  Google Scholar 

  • Asiedu, E., & Lien, D. (2011). Democracy, foreign direct investment and natural resources. Journal of International Economics, 84(1), 99–111.

    Article  Google Scholar 

  • Bhattacharyya, S. (2013). Political origins of financial structure. Journal of Comparative Economics, 41(4), 979–994.

    Article  Google Scholar 

  • Blanchard, O. (1990). Suggestions for a new set of fiscal indicators. OECD economics department working papers 79, OECD Publishing.

  • Borensztein, E., & Panizza, U. (2008, October). The costs of sovereign default. IMF working papers 08/238, International Monetary Fund.

  • Brough, W., & Kimenyi, M. (1986). On the inefficient extraction of rents by dictators. Public Choice, 48(1), 37–48.

    Article  Google Scholar 

  • Bueno De Mesquita, B., Morrow, J., Siverson, R., & Smith, A. (1999). An institutional explanation of the democratic peace. American Political Science Review, 93(4), 791–807.

    Article  Google Scholar 

  • Bussiere, M., & Fratzscher, M. (2006). Current account dynamics in OECD countries and in the new EU member states: An intertemporal approach. Journal of Economic Integration, 21, 593–618.

    Article  Google Scholar 

  • Ca’ Zorzi, M., & Rubaszek, M. (2008, May). On the empirical evidence of the intertemporal current account model for the euro area countries. Working paper series 0895, European Central Bank.

  • Chinn, M. D., & Ito, H. (2006). What matters for financial development? Capital controls, institutions, and interactions. Journal of Development Economics, 81(1), 163–192.

    Article  Google Scholar 

  • Chinn, M. D., & Ito, H. (2007). Current account balances, financial development and institutions: Assaying the world "saving glut". Journal of International Money and Finance, 26(4), 546–569.

    Article  Google Scholar 

  • Chinn, M. D., & Ito, H. (2008). Global current account imbalances: American fiscal policy versus East Asian savings. Review of International Economics, 16(3), 479–498.

    Article  Google Scholar 

  • Chinn, M. D., & Prasad, E. S. A. (2003). Medium-term determinants of current accounts in industrial and developing countries: An empirical exploration. Journal of International Economics, 59(1), 47–76.

    Article  Google Scholar 

  • Cox, D., & Drury, A. (2006). Democratic sanctions: Connecting the democratic peace and economic sanctions. Journal of Peace Research, 43(6), 709–722.

    Article  Google Scholar 

  • Crespo Cuaresma, J., Oberhofer, H., & Raschky, P. A. (2011). Oil and the duration of dictatorships. Public Choice, 148(3), 505–530.

    Article  Google Scholar 

  • Darvas, Z. (2012, March). Real effective exchange rates for 178 countries: A new database. Working papers 1201, Department of Mathematical Economics and Economic Analysis, Corvinus University of Budapest.

  • Efron, B., & Tibshirani, R. (1994). An introduction to the bootstrap. Chapman & Hall/CRC monographs on statistics & applied probability. London: Taylor & Francis.

    Google Scholar 

  • Endegnanew, Y., Turner-Jones, T., & Yartey, C. A. (2012, February). Fiscal policy and the current account: Are microstates different? IMF working papers 12/51, International Monetary Fund.

  • Everaert, G., & Pozzi, L. (2007). Bootstrap-based bias correction for dynamic panels. Journal of Economic Dynamics and Control, 31(4), 1160–1184.

    Article  Google Scholar 

  • Feng, Y. (1997). Democracy, political stability and economic growth. British Journal of Political Science, 27(03), 391–418.

    Article  Google Scholar 

  • Frankel, J. A. (2005, August). Contractionary currency crashes in developing countries. Working paper 11508, National Bureau of Economic Research.

  • Freedom House. (2015). Freedom in the world. Freedom House, New York.

  • Gruber, J. W., & Kamin, S. B. (2005). Explaining the global pattern of current account imbalances. International finance discussion papers 846, Board of Governors of the Federal Reserve System (U.S.).

  • Harms, P., & Ursprung, H. W. (2002). Do civil and political repression really boost foreign direct investments? Economic Inquiry, 40(4), 651–663.

    Article  Google Scholar 

  • Hayek, F. (1978). The constitution of liberty. Phoenix book: University of Chicago Press.

    Google Scholar 

  • Huntington, S. (1993). The third wave: Democratization in the late twentieth century. Julian J. Rothbaum distinguished lecture series. Norman: University of Oklahoma Press.

    Google Scholar 

  • Ilzetzki, E., Reinhart, C. M., & Rogoff, K. S. (2017, February). Exchange arrangements entering the 21st century: Which anchor will hold? NBER working papers 23134, National Bureau of Economic Research, Inc.

  • Imam, P. A. (2008, September). Rapid current account adjustments: Are microstates different? IMF working papers 08/233, International Monetary Fund.

  • International Monetary Fund (IMF). (2013). IMF multilateral policy issues report, 2013: Pilot external sector report. Washington, DC: International Monetary Fund.

  • Kalyvitis, S., & Vlachaki, I. (2012). When does more aid imply less democracy? An empirical examination. European Journal of Political Economy, 28(1), 132–146.

    Article  Google Scholar 

  • Kant, I. (1903). Perpetual peace: A philosophical essay, 1795. London: S. Sonnenschein.

    Google Scholar 

  • Kiviet, J. F. (1995). On bias, inconsistency, and efficiency of various estimators in dynamic panel data models. Journal of Econometrics, 68(1), 53–78.

    Article  Google Scholar 

  • Levitsky, S., & Way, L. (2010). Competitive authoritarianism: Hybrid regimes after the cold war. Problems of international politics. Cambridge: Cambridge University Press.

    Book  Google Scholar 

  • Lipset, S. M. (1959). Some social requisites of democracy: Economic development and political legitimacy. American Political Science Review, 53, 69–105.

    Article  Google Scholar 

  • Maoz, Z., & Henderson, E. A. (2013). The world religion dataset, 1945–2010: Logic, estimates, and trends. International Interactions, 39(3), 265–291.

    Article  Google Scholar 

  • Masson, P. R., Bayoumi, T., & Samiei, H. (1998). International evidence on the determinants of private saving. World Bank Economic Review, 12(3), 483–501.

    Article  Google Scholar 

  • Milner, Helen V., & K, K. (2005). Why the move to free trade? Democracy and trade policy in the developing countries. International Organization, 59(1), 107–143.

    Article  Google Scholar 

  • Morgan, T., Bapat, N., & Kobayashi, Y. (2014). Threat and imposition of economic sanctions 1945–2005: Updating the ties dataset. Conflict Management and Peace Science, 31(5), 541–558.

    Article  Google Scholar 

  • Mungiu-Pippidi, A. (2001). The return of populism—The 2000 Romanian elections. Government and Opposition, 36(2), 230–252.

    Article  Google Scholar 

  • Obstfeld, M., & Rogoff., K. (1994, November). The intertemporal approach to the current account. Center for International and Development Economics Research (CIDER) working papers C94-044, University of California at Berkeley.

  • O’Rourke, K. H., & Taylor, A. M. (2006, May). Democracy and protectionism. Working paper 12250, National Bureau of Economic Research.

  • Papaioannou, E., & Siourounis, G. (2008). Economic and social factors driving the third wave of democratization. Journal of Comparative Economics, 36(3), 365–387.

    Article  Google Scholar 

  • Persson, T., & Guido, T. (2009). Democratic Capital: The Nexus of Political and Economic Change. American Economic Journal: Macroeconomics, 1(2), 88–126.

    Google Scholar 

  • Robinson, J. A., Torvik, R., & Verdier, T. (2006). Political foundations of the resource curse. Journal of Development Economics, 79(2), 447–468.

    Article  Google Scholar 

  • Rodrik, D. (1999). Democracies pay higher wages. The Quarterly Journal of Economics, 114(3), 707–738.

    Article  Google Scholar 

  • Roe, M. J., & Siegel, J. I. (2011). Political instability: Effects on financial development, roots in the severity of economic inequality. Journal of Comparative Economics, 39(3), 279–309.

    Article  Google Scholar 

  • Schumpeter, J. A. (1950). Capitalism, socialism and democracy (3rd ed.). New York: Harper and Row.

    Google Scholar 

  • Torvik, R. (2002). Natural resources, rent seeking and welfare. Journal of Development Economics, 67(2), 455–470.

    Article  Google Scholar 

  • Tullock, G. (1971). The paradox of revolution. Public Choice, 11(1), 89–99.

    Article  Google Scholar 

  • Wintrobe, R. (1998). The political economy of dictatorship. The political economy of dictatorship. Cambridge: Cambridge University Press.

    Book  Google Scholar 

  • Yu, M. (2010). Trade, democracy, and the gravity equation. Journal of Development Economics, 91(2), 289–300.

    Article  Google Scholar 

Download references

Acknowledgements

We would like to thank Thomas Moutos, Nikos Mylonides and an anonymous referee for valuable suggestions and discussions. We have also benefited from comments by Thanasis Stengos, Fabio Antoniou, Thanasis Lapatinas, Michael Chletsos, Stamatia Ftergioti, George Tridimas as well as from participants at the 4th confenence on Applied Economics (University of Thessaly), the 2016 IMAEF Conference and also from seminar participants at the University of Ioannina. Sofia Tsarsitalidou, would like to acknowledge financial support from the IKY foundation and the EU under the NSRF 2014–2020 operational program “Human Resources Development, Education in life long learning”. Any remaining errors are ours.

Funding

Funding was provided by State Scholarships Foundation (GR).

Author information

Authors and Affiliations

  1. Department of Economics, University of Ioannina, P.O. Box 1180, 45110, Ioannina, Greece

    Antonis Adam & Sofia Tsarsitalidou

Authors
  1. Antonis Adam
    View author publications

    You can also search for this author in PubMed Google Scholar

  2. Sofia Tsarsitalidou
    View author publications

    You can also search for this author in PubMed Google Scholar

Corresponding author

Correspondence to Sofia Tsarsitalidou.

Rights and permissions

Reprints and permissions

About this article

Check for updates. Verify currency and authenticity via CrossMark

Cite this article

Adam, A., Tsarsitalidou, S. Do democracies have higher current account deficits?. Const Polit Econ 29, 40–68 (2018). https://doi.org/10.1007/s10602-017-9255-9

Download citation

  • Published:

  • Issue Date:

  • DOI: https://doi.org/10.1007/s10602-017-9255-9

Keywords

JEL Classification

Search

Navigation