Working Paper: NBER ID: w17675
Authors: Andrei A. Levchenko
Abstract: This paper analyzes the impact of international trade on the quality of institutions, such as contract enforcement, property rights, or investor protection. It presents a model in which imperfect institutions create rents for some parties within the economy, and are a source of comparative advantage in trade. Institutional quality is determined as an equilibrium of a political economy game. When countries share the same technology, there is a "race to the top'' in institutional quality: irrespective of country characteristics, both trade partners are forced to improve institutions after opening. On the other hand, domestic institutions will not improve in either country when one of the countries has a strong enough technological comparative advantage in the institutionally intensive good. We provide empirical evidence for a related cross-sectional prediction of the model. Countries whose exogenous geographical characteristics predispose them to exporting in institutionally intensive sectors exhibit significantly higher institutional quality.
Keywords: International Trade; Institutions; Contract Enforcement; Property Rights; Investor Protection
JEL Codes: F15; P48; P45
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| international trade (F19) | institutional quality (L15) |
| trade creates incentives for institutional enhancement (O24) | rents disappear in the country with inferior institutions (O17) |
| initial state of institutional quality (O17) | trade patterns (F10) |
| trade patterns (F10) | institutional improvement (O43) |
| strong technological comparative advantage in institutionally intensive good (O57) | no improvement in the other country's institutions post-trade (F19) |
| lobbying efforts of interest groups (D72) | suboptimal institutional outcomes (D02) |