Munich Personal RePEc Archive
Developing New Measurements of State Institutional Capacity
Popov, Vladimir
New Economic School
March 2011
Online at https://mpra.ub.uni-muenchen.de/32389/
MPRA Paper No. 32389, posted 25 Jul 2011 00:14 UTC
DEVELOPING NEW MEASUREMENTS OF STATE INSTITUTIONAL CAPACITY
Vladimir Popov
What do we mean by state capacity? Most would agree that this is the ability of the state to provide goods and services that the state is responsible for, although many would disagree on what exactly are the responsibilities of the state. According to a narrow definition, institutional capacity of the state is the ability of the government to enforce laws and regulations. There are a lot of subjective indices (control over corruption, rule of law, government effectiveness, etc.) that are designed to measure the state institutional capacity and are based on experts’ estimates.
But many researchers consider them biased and do not think they help to explain economic performance1.
Very often data from different sources show diverging trends. According to the World Bank (WB) control over corruption index (fig. 1), in 2000-05 corruption was falling in Russia and increasing in China, whereas Transparency International corruption perception index (figure 2) suggests that corruption in Russia actually increased and did not change much in China.
Moreover, according to the WB control over corruption index, in 2005 Russia and China were at par, whereas judging by Transparency International index China was 2 times cleaner than Russia.
1 Mushtaq H. Khan. Governance, Economic Growth and Development since the 1960s. DESA Working Paper No.
54, August 2007. http://www.un.org/esa/desa/papers/2007/wp54_2007.pdf
Figure 1
Control over corruption indices in Russia and China (points, ranges from -2.5 to +2.5)
-1,10 -0,90 -0,70 -0,50 -0,30 -0,10 2005
2004 2003
2002 2000
1998 1996
China Russia
Source: World Bank.
Figure 2
Corruption perception indices (Transparency International)
2 2.5 3 3.5 4 4.5 5 5.5
1980-85 1995 2002 2003 2004 2005
China Russia India
Source: Transparency International.
The logical objective measures of the state institutional capacity are the murder rate – non- compliance with the state’s monopoly on violence (figure 3), and the shadow economy – non compliance with the economic regulations (see figure 4).
Figure 3. Murder rate per 100,000 inhabitants and government effectiveness index (ranges from -2.5 to +2.5) in 2002
Left chart – countries with low (0-3) murder rate; right chart – countries with high (15- 75) murder rate
Aust ra lia
A ust ri a Azerb aijan
Bahrain
Belgium Bosn ia a nd Herzego vina
Brun ei Bu lgar ia
Ca nad a China
Croatia
Cypru s Cz ech Rep ublic
De nm ar k Eg ypt , Ara b R ep.
Fiji
FranceGermany Gree ce
Hungary
Icelan d Ir aq
Ir eland Isr ae l
It aly
Jam aica
Japan Jor dan
Kore a, Rep .
Kuwai t Leban on Libya
L ithu ania Malta
Maurit ius
Morocco New Zeal an dNethe rlands Norway
Oma n Po la nd
Port ugal Qatar Saudi Arabia
Singapore Slovak Re publi c
Slovenia
Spain S weden
Sw it zerl and Syria n Ar ab Rep ubl ic
Tu ni si a
Un ited Ar ab Em irat esUnite d Kin gdom Ye me n, Rep .
Yugoslavia, FR (Serbia/Montenegro)
0 1 2 3
Murders per 100 000 inhabitants (WHO)
-1 0 1 2
Government effectiv eness index
Angola
Ba hamas , The B raz il
Burun di Cambodia
Co lombi a
Congo, Dem. Rep.
Cong o, Rep .
Cote d 'I vo ir e Ecua dor
El Sal vad or
Estonia Ethiopia
Gua te ma la
Guine a Kazakhstan Kore a, Dem. Re p.
Liber ia
Myanmar
Namibia Nigeria
Papua Ne w Guine a Paraguay
Philippines Russ ian Federat ion Sierra Leo ne
Somalia
S out h A fr ic a
Suda n
Tanzani a Uganda Ukraine Vene zue la , RB
20 30 40 50 60 70
Murders per 100 000 inhabitants (WHO)
-2 -1 0 1 2
Go ver nm ent e ff ect iven ess inde x
Source: WHO, World Bank.
Crime rate – non-compliance with all state laws – would be an even better indicator. But crimes are registered differently in different countries — higher crime rates in developed countries seem to be the result of better registration of crimes. However, grave crimes, like murders, appear to be registered quite accurately even in developing countries, so international comparison of murder rates is well warranted.
Shadow economy estimates are not very reliable, but at least they are not subjective. They are derived from the comparison of official output and variables that are closely tied to output and are believed to be registered better than output (energy and electricity consumption, transportation activity, tax revenues, employment, demand for real cash balances). Estimates of the shadow economy derived by each of these methods vary a great deal, but hopefully reflect some real phenomena (see source to figure 4).
Figure 4. Share of the shadow economy in GDP in 2005, %, and government effectiveness index in 2002
Albania Algeria Angola
Argentina Armenia
Australia Austria Azerbaijan
Bangladesh Belarus
Belgium Benin
Bhutan Bolivia
Bosnia and Herzegovina Botswana Brazil
Bulgaria Burkina Faso
Burundi
Cambodia
Cameroon
Canada Central African RepublicChad
Chile China
Colombia Congo, Dem. Rep.Congo, Rep.
Costa Rica Cote d'Ivoire
Croatia
Czech Republic Denmark Dominican Republic
Ecuador Egypt, Arab Rep.
El Salvador
Estonia Ethiopia
Fiji
Finland France
Georgia
Germany Ghana
Greece Guatemala
Guinea Haiti
Honduras
Hong Kong, China Hungary
India Indonesia
Iran, Islamic Rep.
Ireland Israel
Italy Jamaica
Japan Jordan
Kazakhstan
Kenya Kiribati
Korea, Rep.
Kuwait Kyrgyz Republic
Lao PDR
Latvia Lebanon
Lesotho
Lithuania Macedonia, FYR
Madagascar Malawi
Malaysia Maldives Mali
Marshall Islands Mauritania
Mexico Micronesia, Fed. Sts.
Moldova
Mongolia Morocco Mozambique
Namibia Nepal
Netherlands New Zealand Nicaragua
Niger Nigeria
Norway Oman
Pakistan
Palau Panama
Papua New Guinea Paraguay
Peru
Philippines
Poland
Portugal Puerto Rico Romania
Russian Federation Rwanda
Samoa
Saudi Arabia Senegal Sierra Leone
Singapore Slovak Republic
Slovenia Solomon Islands
South Africa
Spain Sri Lanka
Sweden
Switzerland Syrian Arab Republic
Tanzania
Thailand
Togo Tonga Tunisia
Turkey Uganda Ukraine
United Arab Emirates
United Kingdom United States
Uruguay
Uzbekistan
Vanuatu Venezuela, RB
Vietnam Yemen, Rep.
Yugoslavia, FR (Serbia/Montenegro) Zambia
Zimbabwe
020406080Share of shadow economy in 2005 in percent
-2 -1 0 1 2
Government effectiveness index in 2002 (from -2.5 to +2.5)
Source: World Bank. Data on shadow economy are from: Friedrich Schneider. Shadow Economies and Corruption All Over the World: New Estimates for 145 Countries. –
Economics. Open Access, Open Assessment E-Journal, No. 2007-9 July 24, 2007 (measures of the shadow economy are derived from divergence between output dynamics and electricity consumption, demand for real cash balances, etc.).
General patterns
All measures of institutional capacity are strongly correlated. The general pattern is that developed countries, East Asia (EA) and Middle East and North Africa (MENA) and Eastern Europe (EE) countries usually have better indicators of institutional capacity, whereas in Sub- Sahara Africa (SSA), Latin America (LA) and Commonwealth of Independent States (CIS) lag behind. The first group of countries in most cases had less than 3 murders in 2002 per 100,000 inhabitants: 1-2 in Europe and Japan (although over 5 in the US) and 2-3 in East Asia and MENA (once again, there are exceptions, like Philippines and Thailand) , whereas in LA, SSA, many CIS states murder rates were normally higher by the order of magnitude. By way of comparison, it took Western Europe 300 years to move from a murder rate of over 40 per 100,000 inhabitants in the 16th century to current levels of 1-2 murders per 100,000 inhabitants in the 19th century and beyond (figure 5).
Figure 5. Homicide rates in some Western countries since 1500
0.1 1 10 100
1500-1599 1600-1649 1650-1699 1700-1749 1750-1799 1800-1824 1825-1849 1850-1874 1875-1899 1900-1924 1925-1949 1950-1974 1975-1994
Period Homicide rate per 100,000 inhabitants (logarithmic scale)
Italy
Germany &
Sw itzerland
Netherlands
& Belgium
England
Scandinavia
Source: M. Eisner. Long-Term Historical Trends in Violent Crime, published in Crime and Justice, Vol. 30 (2003), pp 83-142.
The same goes for shadow economy – it is larger in SSA, LA, and CIS countries (about 50% of GDP), but in EA and MENA it is close to the low levels of Western countries (10-30% of GDP). South Asia is in between these two groups on most indicators of institutional capacity.
The devil is in details…
However, differences in the ranking of countries on subjective (government effectiveness) and objective (murder rate, shadow economy) measures are significant. The subjective index of government is measured on a scale of -2.5 to +2.5, the higher, the better government effectiveness. EA and MENA states do not get the same high ranking in government effectiveness, as in the ability to contain the murder rate and the shadow economy.
It could be expected that the share of the shadow economy is lower in countries with better institutional capacity of the state. But in fact this is not the case. Neither of the subjective indices (corruption perception index, investment climate index, rule of law index, government effectiveness index) helps to explain the share of shadow economy in GDP after controlling for the level of GDP per capita. This is very much against intuition and raises serious concerns about the quality of these subjective indices.
Besides, it appears that political regime (democratic or authoritarian) matters for the subjective ranking. It could be shown, for instance, that out of two countries with the same murder rate, government effectiveness is higher in countries that were more democratic in the past (1970s- 1990s on average) and in the year (2002) when government effectiveness was measured.2 This result holds for all other five WB subjective indices of institutional capacity – rule of law, control over corruption, voice and accountability, political stability and regulation quality. And
2GE2002 =1.36 - 0.03MURDER2002 - 0.22DEMaver - 0.08DEM02 (-4.83) (-4.93) (-2.11)
Adj R-squared = 0.52, Number of obs. = 186, Significance - 4% or less (T-statistics in brackets below).
GE2002 - Index of government effectiveness in 2002,
MURDER2002 - murder rate (per 100,000 inhabitants) in 2002,
DEMaver and DEM02 - levels of authoritarianism - average for 1972-2002 and in 2002 respectively (political rights index of the Freedom House, ranging from 1 to 7, the higher the more authoritarian).
they hold also for the share of shadow economy: out of two countries with the same share of shadow economy, government effectiveness is higher in a more democratic one.
Concrete examples may help to get a clearer picture. The shadow economy in China is less than 17% of GDP, lower than in Belgium, Portugal, Spain, whereas in developing countries it is typically around 40%, sometimes even over 60%. Only few developing countries have such low share of shadow economy, in particular, Vietnam and some MENA countries (Iran, Jordan, Saudi Arabia, Syria). The murder rate in China is less then 3 persons per 100,000 inhabitants – one of the best records in developing countries. However, in terms of government effectiveness index, China (0.1) is close to Panama (-0.1) with the murder rate of 19 people per 100,000 inhabitants and the shadow economy of over 60% of GDP.
Among three Baltic states – Estonia, Latvia and Lithuania – that became members of the European Union in 2004 the highest murder rates and the shares of shadow economy were observed in Estonia and Latvia (13-15 per 100,000 inhabitants and 38-39% respectively), whereas in Lithuania the indicators were better (2 per 100,000 and 30% respectively).
However the indices of government effectiveness were higher in Estonia and Latvia (0.7-0.8) than in Lithuania (0.6). Not to speak about China with much better record of containment of shadow economy and violent crime, but with government effectiveness index close to zero.
Government effectiveness index in 2002 in Iran (-0.5) was the same as in Russia (-0.47), but the murder rate in Russia was over 8 times higher (33 against 4), the share of shadow economy – more than 2 times higher (47% against 20%).
More indicators of government capacity are needed
It is possible that governments, which are less efficient in fighting violent crimes and in containing the shadow economy, have a better record in other areas of government management. But it is also possible that subjective indices are biased: more democratic governments are getting better ratings in government effectiveness, rule of law, control over the corruption and other indices. Sometimes these indicators are strongly correlated, i.e. the improvement of the institutional capacity goes hand in hand with the increase in democracy,
but in many instances in developing countries democratization undermines institutional capacity.
Statistical analysis shows that despite intuition, democratization, as measured by increase in the political rights index of the Freedom House, leads to the deterioration of institutional capacity, if was poor quality to begin with3. This is true not only for subjective measures, but also for the objective ones – the share of shadow economy and the murder rate. There is in fact a threshold relationship: if institutional capacity is above the threshold, democratization improves the quality of institutions, but if it is below the threshold, democratizations leads to the deterioration of institutional quality4.
There is a need to develop new measures of institutional capacity that are based on objective indicators of provision of public goods, like law and order, health care, education, social services, infrastructure. These are not indicators of government expenditure in these areas, but the indicators of the achievements in the area where the government spends the money (higher life expectancy, lower morbidity, higher literacy, better scores in international maths competitions, etc.). The problem, of course, is to determine to what extent these achievements should be attributed to the government activities and to what extent they are due to private efforts.
3 Victor Polterovich, Vladimir Popov. Democratization, Quality of Institutions and Economic growth. – In:
Political Institutions And Development. Failed Expectations and Renewed Hopes. Edited by Natalia Dinello and Vladimir Popov. Edward Elgar Publishing, 2007.
4 The typical relationship is this one:
S = 37.50 - 0.002Y – 22.70Tr + 0.86 ∆(4.35 – CPI),
(4.25) (-2.44) (-4.16) (4.83) (-6.59)
Adj R-squared =0.78, Number of obs. = 33, Significance - 2% or less (T-statistics in brackets below),
where S – share of shadow economy, ∆ – democratization in 1970-2000 (increase in political rights index, points), CPI – corruption perception index in 1980-85, Y – PPP GDP per capita in 1975; Tr denotes a dummy variable for transition countries.
It means that in relatively “clean” countries democratization reduces the share of shadow economy, but in corrupt countries democratization leads to the increase of unofficial economy. The threshold level of corruption perception index in 1980-85 was 4.35 – in between Portugal and Greece.
If CPI isincluded as a linear term, it turns out to be most insignificant and does not increase R-squared. Thus the threshold hypothesis is supported.
