Political regimes and international trade

Toke S. Aidt, Martin Gassebner 16 December 2008

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Two hundred years ago, David Ricardo formulated the principle of comparative advantage and pointed to the associated economic benefits of trade integration. The practical value of this insight has withstood the test of time. It is as apparent in the historical record - trade integration played a major role during the first age of globalisation - as it is from the numerous recent examples of countries that have used international trade to lift themselves out of poverty. Trade integration is, in short, one of the major engines of economic development, as Axel Dreher, Andreas Fuchs, Stephen Klasen and Jan-Egbert Sturm documented on Vox in October 2008.

For this reason alone, it is important to understand why a country gets integrated into the world economy or not. Inefficient economic policy and high transportation costs are obviously important factors, but are likely to be proxy-causes only. Bad policy choices can be reversed and transportation costs can be reduced by investing in infrastructure, so the real question remains unanswered. . A natural starting point is to study the link between political institutions and trade integration. After all, policy choices are shaped by the institutional environment in which they are made, and these choices may pan out very differently in a democracy than in an autocracy.

Some aspects of these questions have been studied before, mainly by political scientists. An influential paper by Mansfield et al. (2000) shows that pairs of democratic countries trade more than pairs consisting of a democracy and an autocracy. Milner and Kubota (2005) argue that democratisation leads to trade liberalisation because political power falls into the hands of a median voter who is in favour of free trade.

It is, however, fair to say that this literature provides partial answers only. For example, since they study pairs of countries, Mansfield et al. (2000) do not directly answer the question of whether or not democracies are better integrated into the world economy than autocracies. Likewise, Milner and Kubota (2005) suggest that the only, or at least the main, difference between democracies and autocracies is the degree of protectionism. But there may well be other forces at play besides this.

Autocratic states do trade less

In a recent paper (Aidt and Gassebner, 2007), we re-examine the influence of a country’s political regime on its involvement in international trade. Our starting point is to estimate the well-known gravity model of trade on a panel of 130 countries over the period 1967-2000. To avoid what Baldwin (2006) calls the “silver-medal” of gravity mistakes, we measure trade flows as real imports of a given country from each of its trading partner rather than as average bilateral trade flows. This choice also allows us to estimate separately the impact of the political regime of the importing and exporting country in each pair.

It is a major challenge to obtain reliable quantitative measures of regime types. One measure is the dichotomous classification of countries into democracies and autocracies constructed by the political scientist Adam Przeworski (see Przeworski et al. 2000). Essentially he classifies a country as democratic if the executive and the relevant legislative bodies are elected through contested elections, and as autocratic otherwise.

Our estimates show that autocracies do trade less. To get a sense of the magnitude of this effect, the following thought experiment is useful. Suppose that all autocracies in the world became democracies. By how much would world real imports increase each year since 1967 relative to its actual value as consequence of this? The answer is given in Figure 1; the increase is large, between of 3 and 6%.

Figure 1 Predicted increase of world imports if all countries were democratic

How much of this can be explained by differences in trade policy? Figure 2 shows that differences in trade restrictions can explain some, but far from all, regime differences in trade involvement. Our thought experiment still increases world imports by between 3 and 5%.

Figure 2 Predicted increase of world imports if all countries were democratic, accounting for official trade policy

Some authors have argued that international trade encourages democratisation (see, López-Córdova and Meisner, 2008). This possibility is obviously a concern. Countries that are not involved in international trade could be autocracies for that reason. We tackle this concern by using instrumental variables and demonstrate that the estimated regime difference for importing countries cannot be attributed to reverse causality. The effect for exporting countries, on the other hand, becomes insignificant.

A theoretical explanation

We believe that differences in political accountability are important for understanding these results and, in our paper, we develop a theory to show why that is.

Conceptually, we map political regimes onto a line. At one end, we locate well-functioning democracies, such as those found in Europe and North America, with a high degree of political accountability and a vibrant free press. At the other end, we locate autocratic states with little or no political accountability and repression of the media. Many states in Africa fall into this category. Other countries can be located between the two extremes. Political accountability is a vehicle through which citizens can hold their leaders accountable for their policy choices, and it only functions effectively if leaders can, in fact, be replaced. In a democracy, elections serve this role; in autocracies, it is more costly to replace bad leaders, but not impossible, as stressed by Tim Besley and Masa Kudamatsu on Vox in 2007. Importantly, lack of political accountability makes it easy for autocratic leaders to extract rents by imposing restrictions on international trade. This explains why autocracies trade less than democracies and points, as in Milner and Kubota (2005), to systematic differences in trade policy as one major cause.

However, this cannot be the only cause. Figure 2 clearly shows that autocracies trade less, even after taking differences in official trade policy into account. What can explain this? We believe that it has to do with systematic differences in trade-distorting red tape and other unofficial trade barriers introduced and maintained by the officials in the customs service. To be sure, even the most rent seeking autocrat has, ceteris paribus, an incentive to weed out such behaviour. By distorting trade flows, his subordinates make it harder for him to extract rents. But, in an autocracy, the absence of free media restricts the monitoring capacity relative to a democracy with a free press. As a consequence, autocratic leaders have less reason to strengthen internal government institutions. The result is an extra layer of (largely unobserved) trade distortions over and above the official tariffs and a reduction in trade flows.

Conclusion

This column contributes to the broader debate on trade and development. Trade integration is one of the major engines of economic development. The fact that autocracies trade less may therefore be one reason why so many of them remain under-developed and may provide a prism through which the result that democratisation causes growth, reported by Elias Papaioannou and Gregorios Siourounis on Vox in 2008, can be viewed. Of course, there are exceptions and China is certainly one, but the development failure of the “average” autocracy may at least partly be attributed to “under-integration” into the world economy.

The World Bank and other international institutions have recently emphasised “good governance”. Our analysis supports the view that improvements in the quality of institutions will lead to better policies and less inefficiency, and will ultimately foster development by encouraging trade integration.

References

Aidt, T.S. and M. Gassebner. 2007. “Do Autocratic States Trade Less?,” Cambridge Working Papers in Economics 0742, Faculty of Economics, University of Cambridge.

Baldwin, R. 2006. “The Euro’s Trade Effects,” European Central Bank, Working Paper WPS/594.

Besley, T., and M. Kudamatsu. 2007. “What Can We Learn From Successful Autocracies?”, VoxEU.org.

Dreher, A., A. Fuchs, S. Klasen and J.-E. Sturm. 2008. “Now More Important Than Ever: A Successful Completion of the Doha Round of Multilateral Trade Liberalisation”, VoxEU.org.

Lopez-Cordova, J.E. and C. Meisner. 2008. “The Impact of International Trade on Democracy: A Long-run Perspective”, World Politics, 60(4): 539-575.

Mansfield, E.D., H.V. Milner and B.P. Rosendorff. 2000. “Free to Trade: Democracies, Autocracies, and International Trade”, American Political Science Review, 94(2): 305-321.

Milner, H.V. and K. Kubota. 2005. “Why the Move to Free Trade? Democracy and Trade Policy in Developing Countries”, International Organization, 50(1): 107-143.

Papaioannou, E and G. Siourounis. 2008. “Democratisation and Growth: A Within-Country Comparison Approach,” VoxEU.org.

Przeworski, A., M. Alvarez, J.A. Cheibub and F. Limongi. 2000. Democracy and Development: Political Regimes and Economic Well-being in the World, 1950-1990. Cambridge University Press, New York, NY.

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Topics:  Institutions and economics International trade

Tags:  globalisation, autocracies, political regimes, trade integration

Senior University Lecturer, Faculty of Economics at University of Cambridge and Fellow of Jesus College, Cambridge

Post-doctoral researcher at KOF Swiss Economic Institute, ETH Zurich