This action might not be possible to undo. Are you sure you want to continue?
Governance and Returns on Investment
An Empirical Investigation
Jonathan Isbam Daniel Kaufmann
There is a strong statistical
link between a country's civil liberties and the performance of its aid-financed government investment projects. But
type of politicalregime
(whether authoritarian or democratic) and the status of more purely political liberties
do not appearto significantly affectprojectperformance.
TheWorldBank Department PolicyResearch Division PovertyandHumanResources November1995
VKIICY RESEARItH WORKINM PAPER 1550
lUsing data frornithe World Bank's Operations Evaluation
D)epartnmcilt, Ishalan, Kaufmann, and Pritchett examine the link between the performance of Bank-financed projects and varioLus inLdicators coountrygovernance. of They find that: T'here is a strong statistical, and possibly causal, link berveen civil liberties and project performance. After conltrolling for a variety of determiiinalnts project of performance, they find that in countries with the best
civil liberties records projects have an economic rate of return between 8 and 22 percentage points higher than the rate of return in countries with the worst civil liberties. (The average rate of return in the sample is 16 percent.) * The type of political regime (whether authoritarian or democratic) and the status of more purely political liberties do not appear to significantly affect project performance.
T'his paper -- a prodUct of the Poverty and Human Resources Division, Policy Research Department - is part of a larger effort in the department to understand the donor and country determinants of aid effectiveness. The study was funded by the Bank's Research Support Budget under the research project "Bank Project Effectiveness and Country Policy Envirolnmeit" (RPO 679-49). Copies of this paper are available free from the World Bank, 1818 H StreetNW, Washington, DC 2043.3. Please contact Sheila Fallon, room N8-030, telephone 202-473-8009, fax 202-522-1123, Internet address sfallon@(aworldbank.org. pages) (44
The Policy Research Working Paper Series disseminates
the findings of work in progress to encourage the exchange of ideas about and conclusions are the
deuelopmrpent issues. At obje ctive of the series is to get the findings out quickly, even if the presentations are less than fully polished. The papers carry thc names of the authors and should be used and cited accordingly. The findings, interpretations, authors' ownr atnd should no?tbe attributed to the World Bank, its Executive Board of Directors, or any of its member countries.
Produced by the Policy Research Dissemination Center
Governanceandthe Returns to Investment: An Empirical Investigation
Jonathan Isham Daniel Kaufmann Lant H. Pritchett
Governance and the Returns to Investment:An Empirical Investigation'
Tntroductinn The quality of governance is widely thought to be an important determinant of a country's economic development (Brautigam 1992)2. However, to find convincing empirical evidence of the effect of governance on economicperformance is a challenge. Definitional and measurement issues plague both the evaluation of inputs--what is the appropriate measurement of good govemance?--and of outputs--what is the effectiveness of government?3 . We are able to make empirical progress in exploring the connection between the governance and economic performance only by severely limiting our focus. We first isolate one observable indicator of economic performance: the returns on investment projects of governments that were financed by the World Bank. We then relate this performance indicator to just two limited dimensions of governance: a) the degree of civil liberties; and b) the political regime type and the degree of political liberties. Despite the serious definitional and measurementproblems with each of these indicators (discussed
Isham:the IRISCenter at the Universityof Maryland. Kaufmannand Pritchett:theWorldBank. We would like to thank Deon Filmer and Phil Keefer for helpfulcomments. One caveat,althoughstandard, deserves special mention given potentialsensitivityof the topic: all views presented in this paper are exclusively those of the authors and do not necessarilyreflectthose of the World Bank.
2 For instance,the World Bank's policystatement on governanceand development summarizes: 'Good governance is central to creating and sustainingan environmnent which fosters strong and equitable development, it is an essentialcomponent soundeconomicpolicies."(WorldBank1992). and to
3 Creating an objectivemeasure of the efficacyof governmentaction is plaguedby both normative disagreementsabout the appropriateaims of governmentpolicy and positive disagreements about the instruments empiricallylikely to achieveany givenaim. For example,a governmentmaybe very effective (and even cost effectivein the limitedsense of achieving givenobjective)at banningimports;yet this is a a policywhichmanymay regard as an ineffectiveand inefficient(in the broad sense)actionfor a government to undertake. See Putnam(1993)for ingenious attemptsto avoidthese problemsand measuregovernment
as they arise) we feel that the data are of sufficient quality and interest to merit examination. The first section describes the data (particularly the data on project performance), establishesthe basic specification of the determinants of project performance excluding governance variables, and introduces our classification of governance variables. The second section
establishes the positive link between the degree of civil liberties and project performance and argues that this relationship is causal. The third section shows the lack of such a relationship between either political liberties or political regime type. The fourth section discusses the interpretation and implications of the empirical results. concludes. The conclusion, as is customary,
II Data description, hasic specificrtinn and results A Project dat The data on the performance of projects is assembled by the World Bank's Operations
4 Evaluation Department (OED) . After e wchWorld Bank loan is fully disbursed--typically 5 to 8
years after the opening of the loan--Bank and borrower country staff write a Project Completion Report (PCR) to assess project performance5 . As one part of this assessment, two performance
4 We do not differentiate projects financedby the IBRD(International Bank for Reconstruction and Development) loans, whichare relatively 'hard" loans at near commercialterms, and IDA (International Development Association)credits, "soft' loans restricted to the poorest countries. Private sector IFC loans are not includedin this analysis. (International FinanceCorporation)
5 The PCR-recently rechristened the Implementation Completion Report--isusuallywrittenby a staff member in the divisionthat supervisedthe loan, but notby anyonewith major project responsibilities.As such,theincentives thestaffto dissemble of aboutprojectperformance, whilepresent,are not overwhelmingly strong.
indicators are created. For all projects, OED staff assign an overall performance indicator on whether the project was 'satisfactory' or 'unsatisfactory' in achieving its development objectives. For those projects in eight economic sub-sectors where the stream of project benefits can be readily quantified and valued--infrastructure, agriculture, industry, energy, water, urban,
transport, and tourism--Bank project staff, sometimes in collaboration with OED staff, calculate an ex post economic rate of return (ERR)6 . The ERR is the discounted stream of project costs and benefits over the life of the project, evaluated at economic (as opposed to financial) prices. Typically, it is calculated by roughly following the methodology of Squire and van der Tak (1975)'. The ex post ERRs are typically calculated about two to three years after project completion, in contrast to ex ante ERRs which
8 are calculated when the project is first assessed . Thus, at the time the ex post ERRs are
calculated, project evaluators know the actual investment costs and are somewhat better informed about actual operating costs and demand; but they still must estimate most of the future stream of benefits'.
6 Assessing adjustment lendingis a whole other kettleof fish, a ketde whichhas been fried on several occasions byi.heWorld both Bankand its staff (World Bank 1991, 1992, 1993;Pritchettand Summers 1993) as well as othersless sympathetic.We excludeadjustmentoperations from our universeof projects. For a discussionof projectperformance adjustmentlending,see Ishamand Kaufmann(1992). and
' Little and Mirlees(1992)discussthe degree of importance economic(versusfinancial)pricing in of WorldBank appraisals the qualityof cost-benefitanalysisoverall. and 'There is an enormous between ERR calculated anteand ex post (between6 and 10 percentage gap the ex pointson average) a hugevariability and betweenthesetwomeasures (theR2 of regressingex post on ex ante only about 0.2). The determinants this gap have been studiedbut are difficultto determine(Pohl and of Mihaljek, 1992). 9 Follow-upstudiestendto find that even the ex post ERRstendto overstatethe "true"rate of return as in many cases, thebenefitflowsare not sustainedas long as anticipated the ex post ERR calculations. in -3-
Table 1 shows the basic information about the ERR and overall ratings used in this analysis, decomposedby region, from 1974 to 199310. The average rate of return was 16.1 percent. The ERRsvariedsubstantially across regions, from nearly 18 percentin both South and East Asia to only 14 percent in Sub-SabaranAfrica. About 73 percentof projectswere rated as satisfactory, ranging from 83 percent in East Asia to only 64 percent in Africa.
Table 1: Region Region
Summarystatisticsof project performance (1974-1993) Economic Rate of return (ERR)
Fraction of projects rated as
Average 16.1 17.9 17.7 17.1 15.5 14.0
_ _ _ _ _ _ _ _ _
Average 0.73 0.78 0.83 0.81 0.70 0.64
All South Asia East Asia _ EMENA Latin America Sub-Saharan
1824 235 340 338 364 547
_ _ _ _ _ _ _ _ _
3435 439 588 613 701 1094
_ _ _ _ _ _ _ _ _ _ _ _ _ _
Notes: Includesall projectsevaluatedby the World Bank's OperationsEvaluation Departmentfrom 1974to 1993. Source: Authors' calculations from OED data.
Rasic specificatinn and clacssification of independent variahles
In this paper, we are focusedonly on the relation between selectedaspects of
'1 An annual publication OEDon evaluationresults (e.g. WorldBank 1993)uses this data to examine by project performance a numberof characteristics. by
governanceand project performance. Nevertheless, we must still account for country structuraland policy characteristics which, as previously shown (Isham and Kaufmann1995, Kaufmannand Wang 1995)are determinantsof project success. Accordingly,for each governancevariable tested, we estimatefour specificationswhich include variousdegreesof control variables: a) country and structural characteristicsonly; b) these variablesplus regional dummies; c) country and structural characteristicswith "policy" variables;and d)
1. these variablesplus regional dummies"
By estimating and reportingeach of these specifications,we are able to explorepossible endogeneityof policy variablesand governancevariables. The independentvariableshave been classified as follows:
Exogenousand/or structural variables (denoted Xs), including the country
capital/laborratio, termsof trade changes, and a dummy for project complexity12;
Possibly endogenouspolicy and economic variables (denoted Zs) that could be
correlated with each other and/or with the governance variables, includingthe black market premium, the fiscal deficit, and GDP growth;
Regional dummiesfor South Asia, East Asia, Sub-SaharanAfrica, Latin America,
and Europe and the Middle East. When only structuralvariablesare included (specificationsA and B) the estimateof the
" Wedid not include sectoral dummies the basecase although in thereare differences acrosssectors (whether isdueto realdifferences methodologiesunclear). Theirinclusion notappear affect this or is does to the resultsas countryportfolio composition not appearto be correlated does with the otherdependent variables.
12 Following IshamandKaufnann (1995), includes integrated this all rural development, irrigation and drainage, livestock and projects.
partial impact of better governanceon project performancecould be overstatedbecauseof omittedvariablesbias, conversely, when policy variables are included(specifications and C D), this estimate could understatethe true total impact of governanceif part of the impactof
3 better governanceis through better policies".
The inclusionof the regional dummies, which are obviously exogenous,is simply a robustnesstorture (for us) test. In order to be persuasivewe feel the results shouldsurvive the introductionof regional fLxed effects; otherwise, the results may simply be capturingsome other unmeasuredhistorical, culturalor ideologicaleffect that covaries across regions and is perhaps correlated with both project returns and the governancevariables.
C Basicresuits without governance variahles Three econometric issuesrelated to the project evaluation data deservementionbefore reporting the base case results. First, the ERRs are truncated from below as, accordingto OED conventionthe lowest ERR reported is negative 5 percent. Thus, unless otherwisenoted,
14 the reported results use a Tobit regression . Second, we must match the time period of the
3 If the set of equationsfor determining rate of return on project with governance the (G), exogenous ERR, = 3*Gi+ 6*X] +cx*Z. + e,
Zj = y *Gi+Tl,
(X), holdingall variables variables and policyvariables(Z) is as above, thenthe pardal effect of governance constant (includingthose that normallywouldbe affected) is just P. The total effectof governance, which includesthe effect of governancethroughits effect on policies(Z), is P+a *y. In somecircles,the Tobitregressionis out of favor becauseit is non-robust,as its parameterestimates depend theassumption normallydistributederror term. Since a relativelysmallfractionof this sample on of is at the truncationpointof -5 percent, the Tobitestimatesare quite similarto simpleOLS(Greene1981).
time varyingvariables, such as black market premium or terms of trade, to the period relevant to the dependent variables, the economic rate of return on projects. This is difficult, as the projects are implementedover a long (on average seven years) and variable period and are expected to yield benefits over an extendedperiod as well. While there are argumentsin favor of various weights, we use a three year weighted average of the time varying variable, going back from the year in which the project evaluationwas done. Third, although the projects vary tremendouslyin total cost, from $1.7 million to $5.7 billion, we do not weight the projects, nor adjust for heteroskedasticity,as the standard tests did not indicate any conditional heteroskedasticity a function of project size'5 . as The "base case" regressions--withoutany governancevariable--are presentedin table 2. In table 2 and in the tables below, we report p-levels of the test whether the coefficientis zero rather than the usual test (t or chi-square) statisticsthemselves. The p-level is the significance level at which the null hypothesiscould be rejected. A p-level of less than 0.05 indicatesa rejection of the null hypothesisat (at least) the 5 percent level. As noted above, specification A is the regression of the project ERR on exogenousand structural variables (Xs) alone, specificationB is the Xs with regional dummies, specificationC is the Xs -andother possibly endogenouspolicy indicators (Zs), and specificationD is the full regression: Xs, Zs, and regional dummies. The results in table 2 are substantiallythe same as those of Isham and Kaufmann(1995) and hence will not be discussedin any depth. Most of the results are intuitive: ERRsare
' Ina preliminary version this of paperregression results wereweighted, subsequent but analysis revealed thattheresults werenotaffected theweighting that wehadincorrectly by (and computed weights). the
lower with a larger capital-labor ratio, greater project complexity, a higher black market premia, and a larger fiscal deficit. In addition, even after controlling for all these factors, ERRs are substantially lower in Sub-Saharan Africa and modestly lower in Latin America and
16 EMENA .
16 The regionaldefinitionsare based on the (then) standardBank groupingsinto Latin America and Caribbean, Sub-Saharan Africa,SouthAsia, East Asia, and the somewhat mixedbag of Europe, MiddleEast and NorthAfrica(EMENA).
Non-g vernance determinants of project returns (ERRs): 1974-1987 Specification: A Exogenous B Exogenous with region durnmies C Exogenous and policy D Exogenous, policy, and region dummies
Exogenous ln(capital/labor) Dummy for project complexity Terms of trade shock Policy Black market premia Fiscal deficit GDP growth Regional Dummiesb -0.046 (.0001) 0.178 -0.040 (.0001) 0.229 -1.28 (.029)a -5.80 (.0001) 0.086 (.278)
-1.73 (.050) -5.81 (.0001) 0.096 (.218)
-1.34 (.024) -4.99 (.0003) 0.064 (.417)
-1.39 (.122) -5.06 (.0002) 0.077 (.316)
(.791) -3.85 (.140) -6.13 (.036) -8.54 (.0001)
(.246) -4.90 (.065) -5.51 (.071) -9.12 (.0001)
Latin America EMENA Sub-Saharan Africa
Notes: a) p-levels in parenthesis, b) based on World Bank regional classifications. Sample size = 761. Source: Authors' calculations -9-
Since we focus on the impact of governance variables, we will (as a presentational matter) only report the coefficients of the various governance indicators when added to these four base specificationsrather than repeat all the results for each control variable for each regression. Little
of substance is lost in not repeating these results: none of the coefficients on any of the variables above--includingthe black market premia and fiscal deficit--change dramatically or interestingly
17 with the inclusion of any of the governance indicators .
D. Measuring "governance" Discussions of "governance" typically generate more rhetorical heat than empirical light as politics, like religion, is a topic where beliefs are strong and reliable empirical measurement is difficult. Even a consensus on definitions is elusive: what does one mean by "governance" or
18 especially "goodgovernance"? . There is probably agreement on governance in the extremes. A
stable democracy where basic prescriptive human rights are honored and with a competent and honest civil service would no doubt receive the label "good governance" from most observers; by contrast, an unstable autocracywhere human rights are abused and with a demoralized and corrupt civil service would receive the label "bad governance". There is probably also agreement that the
'' One finaleconometric note:in order not to sacrificetoo manyobservations whenthenon-governance controlvariables missing, imputed meanvaluefor missingobservations the fiscaldeficitand then are we the on included the estimation dummyvariableinteractedwith thesevariablesfor thoseobservations which in a for the data are imputed.At leastin the case where the independent variablesare uncorrelated, this procedure producesconsistent estimates thevariables for with imputedmissings (bypackingthe impactof measurement error dueto imputation theinteractive onto term) and at leastpotentiallyimprovesthe efficiency estimation of of the governance variables notthrowingout any observations by with dataon governance becauseof missing valuesof the controlvariables.
IS The WorldBank'spolicy paper definesgovernanceas "the mannerin whichpower is exercisedin the management a country'seconomic social resourcesfor development." of and (WorldBank1992).
quality of governance can be evaluated along at least the following three dimensions: accountability (including legitimacy, institutional pluralism and participation), openness and transparency,and predictabilityand the rule of law (Brautigam, 1992). However,even thoughthe many dimensionsof "good governance"typicallycovary (e.g., political stability, transparentrule of law, competent administration,democracyand respect for human rights), they are conceptually,logically, and empirically distinct. There are clearly examples of effective but non-democratic governments (e.g. some East Asian countries), democratic but corrupt governments (e.g. some South Asian countries), and democratic governments which abuse human rights (e.g. some Latin Americancountries). As an extreme example,the UnitedStateswas inarguably democracyin the ante-bellumperiod, yet it tolerated a the most egregious of humanrights violations: slavery. In spite--and because--of thesedefinitionaldifficulties, we isolatefor analysisonly two all of the many possible elementsof governance: the extension of civil liberties; and the extension of politicalliberties and type of politicalregime. As noted, these are regrettablybut necessarily narrowaspectsof governance.We are ignoring a number of other potentiallyimportantfactors: we do not treat governmental policy-making (Haggard and Webb 1994), nor directlymeasure the degreeof governmentaccountability (Paul 1992, 1994), nor addresspoliticalinstability(Alesina and Perroti 1993), nor use otherindicators of govemrnentperformance, such as those generated by privaterating servicesfor foreigninvestors(Mauro 1995, Knack and Keefer 1994) . We have chosenthe civil and political dimensions three reasons: they are at least plausiblyquantifiable, for andempiricalmeasuresdo exist;they (albeitimperfectly)span the three dimensions listed above-accountability, openness, and the rule of law; and these same indicators of civil and political
liberties are increasingly being tested in cross-country growth regressions.
TI) Civil liberties and1 projectperformance A) Indicatorsof civil liberties Developing a meaningful cross-country indicator of civil liberties is obviously difficult. There is little international consensus on liberties that ought to be permitted. Moreover, when those liberties about which there might exist some consensus are suppressed, it is almost always done surreptitiously. That said, several large efforts have attempted to rank countries by degree of civil liberties. In this study, we use data from three of these efforts:
19 * Freedom House (1994 and previous years) has constructed a ranking of civil liberties
for 165 countries from 1972 to 1994. This ranking--on a seven point scale--is based upon
20 a fourteen item checklist of civil liberties ;
Humana (1986) constructed an index of human rights achievement in 89 countries for
the year 1985. This index, on a scale of zero to 100 (actual range is 13 to 98) was based upon the definition of human rights adopted by the General Assembly of the United Nations in 1966 under the International Covenant on Civil and Political Rights;
This indexis more commonly knownas the Gastilindex, after its originator(Gastil1987).
The fourteenitemsare: mediafree of censorship;open publicdiscussion;freedomof assemblyand demonstration; freedomof politicalorganization; nondiscriminatory of law in politically rule relevantcases; free from unjustifiedpoliticalterror; free trade unions and peasant organizations; free businessesand cooperatives; professional otherprivateorganizations; religiousinstitutions; free and free personalsocialrights (e.g. property, internal and externaltravel); socioeconomicrights; freedom from gross socioeconomic inequality;and freedomfrom grossgovernment indifferenceor corruption. - 12 -
22 Coppedge and Reinicke (1990) constructed five series on upolyarchy" in 170 countries
for the year 1985. We use "media pluralism" and 'freedom to organize' as indicators of two fundamental civil liberties. While each of these indices of civil liberties are subjective and debatable, their cross correlationsare reasonably high, which creates some confidence that they measure the same thing and do so reasonably well (althoughwe note that, since Coppedge and Reinicke used the Freedom House and Humana studies in their own ranking procedure, part of the high correlation between
'"The set of institutional arrangementsthat permits public oppositionand establishes right to the participatein politics" (Coppedge Reinicke1990). The other series are 'fair elections","extension and of suffrage", "freedomof expression".We do notreport the resultson these series becausetheyeitherhave and lessvariance and/orcapturepoliticafreedoms.Consistent with reports reportedbelow on politicalindicators, they are in no case statistically significant acrossspecifications. - 13 -
the lattertwo and former two series is by construction)3.
However, we wish to stress that by
usingtheserankingsneitherthe authors-nor especiallythe World Bank--placeany importanceon the rankingfor any particularcountry. Moreover, by using these numbers strictly for our crosseconometric exercise, we do not imply acceptanceof the numbers nor any commenton sectional the politics, rights, or practices of any country.
R) Civil fiherties and prnject performance
Table 3 shows the results of including each of the measures of civil liberties in the project performance regressions. There is a consistent, statisdcally significant and empirically large effect
Thecorrelationsamongstthe 'civil liberties"measuresare: FH Civil(79-86) Humana CR Organize 0.83 0.78 0.81 0.68 0.79 0.82
Humana CR Organize CR Media
on 'civil liberties," say A (FreedomHouse)and B (Humana)differ onlyby 24 If differentobservations independent measurement error then the correlation between the two measures is
_ _ _ _ _ _ _ _
is the variance of the "true' variable and
measurement error variance for measurement A(B). If the measurement error variance is equal
thena correlationof .8 impliesthe ratio of measurementerror (noise)to the varianceof
the true variable(signal),
is about .2.
of civil liberties on the return to projects25. Taking the estimates from specificationD, if the FreedomHousecivillibertiesindexwere to improvefrom the worst (1) to the best (7, as in Costa Rica for all evaluated years), the ERR is predicted to increase by 7.5 percentage points. Similarly, with the estimatesusing the Humana index, improvingfrom the worst civil liberties (13)to one of the best (91, as in CostaRica) would improvethe ERR by 22.5 percentage points. Since these civil liberties indices are on a different scale, a more standard method for comparison to calculate is how much the ERR is predictedto increaseif each index were improved by one standarddeviation (column5). An increaseof this magnitude the Freedom House index in wouldraise the predictedERRby 1.6 points; a similar increasein the Humana index would raise the ERR by 5.2 points; a standard deviation increase in "mediapluralism" would improve the predicted ERR by 3.1 points.
5 For the FreedomHouseand the Coppedgeand Reinickeindicators, havereversedthe scalesfor we comparability.Thus, for all indices,a highervalue representsmore liberties. - 15 -
Impact of civil liberties on project rates of return
Specificationa: A Freedom House Civil (197819 87 )b (N =649)
C 1.71 (.002) .296 (.002)
dev. increase on
1.81 (.0005)c .290 (.003)
1.16 (.079) .299 (.007)
1.07 (.114) .289 (.013)
Humana (19821985) (N=236)_
(.0001) 3.17 (.0001)
(.002) 1.81 (.184)
(.001) 2.41 (.006)
(.026) -0.26 (.854) 2.70c
Freedom to organize(19831987) (N =448)
Notes: a) for descriptionof the specificationssee table 2; b) Annualvalues from 197887. The other three indicesare single values extrapolatedto cover the listed time period; c) p-levels in parenthesis;d) for the calculation in column V, the standard deviations--forthe entire samplefor which each variable is available--are1.47, 17.97, (see appendixtable Al.1); e) uses estimatefrom column C. 0.91 and 1.12 respectively Source: Authors' estimates.
Thisfindingof a positiverelationshipbetween civillibertiesandERRs is the central the positivefindingof our paper. We completethis sectionby showing statisticalrobustnessof this finding;we arguein the followingsectionthat it is plausiblethat better civillibertiesactually are a factor in producingbetter projects. Onepossibleconcernwiththe econometricresultsaboveis that they are drivenby a few outlyingobservations, someprojectshave very high estimatedrates of return. We have dealt as accountingfor the lower with that problemin two ways. First, in additionto a Tobit specification
- 16 -
truncation,we truncatedthe ERRsabove at the more or less arbitrarylevelof a 50 percentrate of return. Thistruncationdidnot affectthe results. Second, we in additionto OLS,we estimated specification using quantile(median)regression,a techniquethat is morerobust to extreme D observations. Again,allthe civillibertiesvariablesthat were significant specification in table in D 3 were statistically significant usingmedian regressionestimates. The results are qualitatively similar with the binary 'satisfactory/unsatisfactory" rating. Using only this rating as the measureof project performance allows a larger sampleof projects, as social sectorprojectsthat normally do not receive an ERR are rated by OED'2. Table 4 reports the estimatesof a Probit regression for specificationsC and D (results for A and B were similar). Naturally,since the binary indicator discards a great deal of statistical information, these results are less precise: the p-levels are lower, and the estimatesfor the Humana ranking are insignificant. For the other variables, the estimatesshow large increases in the likelihood of a good project when implementedunder higher civil liberties. For instance, at the mean of the FreedomHouse variable, a one standarddeviationincrease in civil liberties would lower the probabilityof an unsatisfactoryproject by 3.2 percentagepoints, which reducesthe predictedfailurerate by 16 percent (from the mean of 20 percent). Similarly, a one standarddeviationimprovement in media pluralismwould reducethe failure rate by almost 5 percentagepoints, or 25 percent from the mean7 .
See Kaufmannand Wang(1995)for a discussionof the performanceof socialsectorprojects as a functionof macroeconomic policies.
26 2 The comparisonbetweenthe linear regressions and the Probit effects is complicated, these but magnitudesare roughlysimilar. That is, if we created a dummyvariablefor 'unsatisfactory" based on the ERR faiingbelowsomecriticallevel,thenthemarginalchangein probabilityof failurefromthe linear model at a particularpoint (if the error term were normal) wouldbe PIo*o(.), where P is the slopecoefficient,o
- 17 -
Impact of civil liberties on the probability of a project being rated as satisfactory,using Probit regression.
Specification: C D .022 (.060)
Freedom House Civil (1 9 7 8 _ 0 )b 9 N= 1155
Humana (1982-86) N=604 Media pluralism (1983-90) N=740 Freedom to organize (1983-90) N =740
-.00067 (.589) .022 (.296) .042 (.009)
.0012 (.388) .054 (.045) .040 (.085)
Notes: a) for descriptionof the specificationssee table 2, b) Annual values from 1978-87 while for the other three indicesare single values for the listed time period; c) the value reported is not the Probit coefficient,but the marginal change in the probabilityof a successfulproject as the variablechanges, evaluated at the means of all independent variables; d) p-levels of the test that the Probit coefficient is zero in parenthesis. Source: Authors' calculations
C) Civil liberties andprojectperformance Disentangling cauIsality
This empirical relationshipbetweenperformance of projects and civil libertiesis striking. Yet the interpretationof this partial correlation is problematic: it may well be that some countryconditions causeboth greater civil liberties and better projects. We argue in two ways that the results suggesta causativeeffect from better civil liberties to better project performance. First, prior work suggeststhat beneficiary involvementand accountability of the is the error standard error, and4() is thestandard normal evaluated a particular pdf at point. Taking
in valuesfrom theregressions table3, themeansof ERR from table 1, and an estimateof a givesresults from .0266=1.07/14.7*@ ((16.1-10)/14.7)(specification and .042= 1.71/14.7*¢((16.1-10)/14.7) D) which are slightlyhigherthan the estimatesof .018and .022 from Probit.
implementingofficials are both key elementsof project success: both of these facets of governancecould suggest a mechanismfor a causal link between civil libertiesand performance. Second, we show that the data between manifestationsof civil strife and project successshow a positive effect that is best understoodas a mediating mechanism.
1) Other literature civil liberties and performnance
Experience in developingcountiesilluminatestwo aspects of governancerelated to civil libertiesthat affect project performance. Beneficiaryinvolvementand participation. There is increasing consensusamongaid agenciesthat input from and involvementof potential beneficiaries in governmentinvestment projects is key to their success(e.g. World Bank 1995). Myriad case studies (e.g., Korten and Siy 1988) illuminatethe mechanismsbetween beneficiaryparticipation and performance. Isham, Narayan, and Pritchett (1995)use data from 121 water projects to show that greater participationby potential beneficiariesdirectly causedbetter project performance. It is likely that beneficiaryinvolvementin projects is greater in countries which score higher on a ranking of civil liberties. At least six of the 14 elementsof the Freedom House civil rightsindex, for example, are directly compatiblewith beneficiaryparticipationin projects: mediafree of censorship,open public discussion, freedom of assemblyand demonstration,free trade unions, peasant organizations,businessesor cooperatives,free professional or other private organizations,and freedom from gross governmentindifferenceor corruption. Public sector accountability. A related dimensionof the performanceof government projects is the degree to which the public sector officials are held accountablefor their
- 19 -
performance. For an extreme instance, Dreze and Sen (1991), in their study of famines elaborateon the fact that no major famine has ever happened in a country with a free press. They postulatethat free flow of informationforces even non-democraticgovernmentsinto actions to prevent economic catastrophessuch as famines. Empirical studies of accountability are rare, but suggest that the degree to which public sector employees are responsibleis an importantdimensionto performance(Wade 1994, Paul 1996). Both greater beneficiary involvementand greater accountabilityof public sector officials are facilitatedby an environmentin which basic civil liberties--suchas the freedom to speak out and the ability of groups to organize to protect and advance their interests--are recognized.
2) Civil unrest, civil liherties and project performance
Another intuitive argumentfor a causal mechanismbetween civil liberties and project performanceis a chain that runs from civil liberties through indicators of civil unrest to project perforrnance. The data suggestthat, controllingfor population, higher indicatorsof civil strife, such as an increased numbersof riots, protest demonstrationsand strikes, is strongly
positively correlated with project performance. This finding at first seems paradoxical, but we
show that greater civil libertiesare associatedwith higher values of these civil strife indicators and that, controllingfor the degree of civil liberties, there is little additional impacton project performance. Table 5 shows that countrieswith high average project performancealso have on average much higher levels of civil unrest. When we sort countries into groups based in their
- 20 -
average ERR, we find countries in the 'high ERR' category had average rates of return twice as high as those countries in the "low ERR" category. Interestingly, these high ERR countries had many more riots, demonstrations and strikes per capita (adjusted for population effects)
2 than countries with poor project performance 8 .
Table 5: Indicators of political and civil unrest by average ERR by country. ERR categorya Average ERR Number of countries Regional distribution Number of projects Indicators of political unrest, averages per year by country (deviations from population-adjusted means): Riots Demonstrations 0.30 0.16 Strikes
S. Asia: 3; E Asia: 3 LAC: 5; SSA: 2; EMENA: 3; S. Asia: i SSA: 9; LAC: 2; S. Asia: 1I___
Notes: a) ERR categories are determined by average rates of return classified by country for all countries with at least 10 projects over the period from 1974-1987. Source: Autifors' calculations
2' Thecivilunrestvariables(riots, protestdemonstrations, strikes,)came as numberof incidentsper and meant that countrieswith larger populations a greater had country per year (Banks1979,updates). This normalizeto per capita,as there is absolutenumberof incidents. However, it did not seemright to simnply for plausiblysome increasingreturns to scale in civil unrest. Consequently, each of the three variableswe to (which is equivalent adjustingthe regressed absolute the numberof incidentson population*ln(population) per capita levelfor thetotalpopulation semi-logform) and reportthe residualof this regressionas 'excess' in was expected a givenlevelof population.Thepopulationadjustment also very for civilunrestovertheamount significantand the R-squaredvaried from .02 (strikes) to .18 (riots). The results reportedbelow were unchanged usingother concavefunctionalforms in place of this semi-logform. by - 21 -
That greater civil unrest is associated with better projects appearsat first to be puzzling. Typically, suchmanifestationsare thoughtto be associatedwith worse performance. However, all the projectsin this analysis are financed by governmentsand, unlike in the private sector, civil unrest does not create the same kind of risks for performance. By contrast, there may be a channel whereby civil tension leads to better project choice and implementation. While markets for private goods rely on informationfrom consumers (expressedin the form of the aggregation of individualpurchase decisionsmade in the market), governmentsmust rely on other channels for expressionsof citizen's preferencesand for the monitoringof the performanceof government agents in carrying out their functions It may be that with more open channels, all forms of expressionof popular will--includingcivil unrest--are greater. What is the relationshipbetween the indices of civil libertiesand riots, strikes, and demonstrations? Table 6 shows that for all indicators except for Humana, greater civil liberties are stronglyassociatedwith greater degrees of civil unrest.
Table 6: Correlationsbetweenindices of civil liberties and civil unrest
(all variablesadjusted for populationeffects)'
indicator Freedom House
-.01 (.87) .24 (.0001) .29 (.0001)
.22 (.0002) .29 (.0001) .36 (.0001)
Media Pluralism .14 (1983-87) (.0011) Freedom to organize
Notes: a) indicatorsof civil unrestper capita adjusted for total population size as describedin footnote28; b) Annual values from 1978-87. The other three indices are singlevalues extrapolated to cover the listed time period; c) p-levels in parenthesis. Source: Authors' calculations
Table 7 uses the same regressionbase specification as above and showsthat there is, if anything, a modest positiveeffect of various indicators of civil unrest on projectreturns. In both of the specifications withoutregional dummies, the number of riots, protest demonstrations,and politicalstrikes are positively and significantlyrelatedto the rate of return. Projects apparentlydo better in environments with greater civil strife when civil liberties are not includedas a determinant(e.g. a coefficient of 0.56 in specificationA for
- 23 -
29 riots). However, with the additionof any of the indicators of the degree of civil liberties ,
the impact of political manifestations reduced in magnitude. For instancethe coefficient on is riots falls from 0.56 to 0.32 in specificationA. That is, for any given level of civil liberties, neither riots nor strikesare associatedwith better performance, but protest demonstrations seem to still have some independentaffect. The results support a chain of causation that runs from greater civil libertiesto higher levels of the citizen's involvement--including manifestations--andto better projects. This civil is not to suggest that civil unrest is itself the mechanism: it is more likely that environmentsin which civil unrest is possibleare also those in which other mechanismsfor expressionof popular (dis)contentwith governmentperformances are available and effective.
9 Only the FreedomHousecivil indicatoris shown in table 8, but the resultsfor the other three are similar.
Indicators of civil unrest and project returns, without and with controls for civil liberties.
Adding just riots
Freedom House Civil
(0.34) 1.51 (0.093) l
(0.245) 1.19 (.083)
Adding just protest demonstrations
Freedom House Civil
Adding just political strikes
Freedom House Civil
(0.857) 1.77 (0.002)
(0.683) 1.61 (0.006
(0.520) 1.09 I 09)
Adding all three civil strife variables
F-testcfor all three indicatorswithout
and with civil
Notes: a) for a description of the specificationssee table 2; b) p-levels in parenthesis;c) F-tests calculatedwith and without all three indicators. Samplesize = 649. Source: Authors' calculations.
- 25 -
TV) Political regime tye
political liberties and project performance
Civil and political liberties are undoubtedly associated with each other and with democratically-elected governments. Yet there is a clear analytical distinction among these two types of liberties and the type of political regime: for example, the degree of civil and political liberties varies widely among non-democracies. Therefore, finding that more civil liberties are associated with better ERRs does not imply that different types of political regimes are associated with better performance. To try to disentangle these relationships, we test for the possible association between ERRs and these two related aspects of governance: political liberties and political regime type.
A) Political liberties The most widely used measure of political liberties is an index also published by
3 Freedom House, based on 11 indicators of political rights 0 .
Like the ranking of civil
liberties, it is a subjective ranking from 1 to 731 Another possible measure of political liberties is the index of human rights violations (IHRV) constructed by Pourgerami (1988), based on reports of Amnesty International on the extent of human rights abuses for the years
30 The elevenare: chief authorityrecentlyelectedby a meaningful process; legislaturerecentlyelected by a meaningful process; fair electionlaws; fair reflectionof voter preference in distributionof power; multiple politicalparties; recent shiftsin power throughelections;significant opposition vote; freedomfrom domination the military, foreignpowers, and other powerfulgroups; no major group or groupsdenied by reasonable self-determination; decentralizedpoliticalpower; and informal consensus(de facto opposition power).
In manystudies(e.g., Helliwell1992),thesetwo closelycorrelatedindicesare summedto createone overallindexof liberties.
- 26 -
1984-86. It takes a value of 4 for the least and 1 for the most human rights abuses31. Table 8: Political libertiesand project performance
D -. 115
Freedom House (Political)b
Index of Human Rights Violations(IHRV) (N=425) Dummy variablefor each level of violations (default is most violations, IHR' 1)
IHRV=3 IHRV=4 (least violations)
5.46 (.018) 0.08
3.33 (.193) 1.66
4.23 (.078) 1.30
2.92 (.292) 3.04
Notes: a) for descriptionof the specifications see table 2; b) Annual values from 19781987. IHRV is a single value extrapolated to cover 1980-1986;c) p-levels in parenthesis. Source: Authors' calculations The results reported in table 8 do not show any strikingpositive impact of purely political rights on ERR. The Freedom House index shows a significantpositive effect in the least demandingspecification(A), but whereas civil libertiesis robust, the political result is not. It is driven out in significanceby the policy controlsand, in both magnitudeand significance,by the inclusionof regional variables. The index of human rights violations (IHRV) similarlydoes not show any clear pattern of impact on projectperformance. Although in specificationD there is some significant effect, the result is highly non-robust and appears to be driven by a few observationswith very
`2 Actually, highest the possible value on the scale is 5, whichonly one country,Jamaica,achievesso for our purposes Jamaica re-classified 4, the levelwhichincludesCostaRica, Venezuela,Mexico,Singapore is to and Nigeriafrom 1984-86.
- 27 -
33 high ERRs . Besidesthe possibledistinction between the top and the bottom, the results show
no clear pattern amongstlevelsof the index. In most of the specifications,whilecountries with the second to worst amountof violations (IHRV = 2) do better than countrieswith the most violations, they also do much better than countries with an even better record (e.g. 5.46 for RV=2 versus 0.08 for IHRV=3 in specification A) and about as well as those with the
best record (e.g., 3.33 for IHRV=2 versus 3.96 for IHRV=4 in specificationB). Therefore, while there is some mild evidencethat it is better not to be in the worst group, there are no discernibledistinctionsamongstthe other levels of IHRV 3 4 . These weak results on the importance of civil liberties are the result of introducingthe political variable into the base specificationwithout any indicatorof civil liberties. If we ask what the effect of politicallibertiesare, conditional on the level of civil libertieswe find that the civil liberties indicatorsretain all of their iInportancewhile the FreedomHouse political liberties variable producesweak,or even results which suggesta greater level of political liberties, holding civil libertiesconstant, worsens project performance. Table 9 shows that, controllingfor civil libertiesraising political liberties actually reduces the ERR. While not too much shouldbe read into these results (as the multicollinearityproblemsinvolvedwith the estimationof the variablestogether are severe) these do strengthenthe interpretationthat civil liberties are of primary importancein explaining project returns.
3 For instance a linear in regression simplicity), (for whilethecoefficient 1.96withTobitestimation is (inspecification it fallstoonly D), -.027in a medianregression.Similarly, theERRsaretruncated if above falls at 50 percentage points,theestimate to 1.1 (witha p valueof .207).
3' Moreover, beingintheworst groupby thisindicator simply may indicate thecountry involved that is in a serious conflict, hence wouldexpectdisruption projects civil and one of independent anyexogenous of impactonliberties.
- 28 -
Estimatedimpact of political liberties on project returns (ERR)while introducingcivil liberties variables. Civil liberties variable included in specificationD Nonea Freedom House (Civil)
Humana (1982-85) -1.44 (.241) .365 (.006) 236
Freedom to Organize
Freedom House (Political) Civil liberties variable N
( 8 4 0)b
-2.35 (.013) 3.33 (.0033)
-1.17 (.175) 4.53 (.009) 448
.040 (.967) .216 (.906) 448
Notes: a) same regressionas table 8, b) p-levels in parenthesis.
R) Political regime type
Refonn The first indicatorof regime type, developed by the Center on Institutional and the Informal Sector (IRIS)and labeled here as the 'IRIS Indicator of RegimeType' (IIRT), places countries annuallyin one of five classes: democracy(IIRT=5), partial democracy; transition regime, partial autocracy; and autocracy (IIRT= 1). Matchedwith our project/policy data set, this includesannual observations from 1974-1987for 51 countries. Since this indicator.of differentregime types is not (necessarily) a cardinalvariable, we include a dummy variablefor each type. The second indicator, constructedby Alberto
Alesina et. al. (Alesinaet al. 1992) and labeled here the "AlesinaDemocracyIndex"(ADI), is an annual ranking of countriesby democratic status on a scale of one (mostdemocratic)to
three. We use the annualobservationsfrom 1974-1982for 48 countries. The results from includingthese either of these two measures of politicalregime type in the base specificationsare emphaticallyambivalent(table 10). The lowest rankinggroup of countriesby IIRT, the "autocracy",tends to have a lower ERR than other categories(as evidencedby the positive signs for most of the others). In specificationsA and C (without regional dunmmies), IRT categories3 and 5 (most democratic) tend to have higher returns, while in specificationD none of the differencesare empirically or statisticallysignificant. Using the ADI, we also find in specificationsA and C some weak evidencethat more democraticregimes tend to have higher returns, but this is reversed by the inclusionof regional controls. Moreover, except for a comparisonbetween the "best" and "worst" regimetype, there is no clear pattern to the results. For instance, the increment to returns over the autocraciesis nearly as high when IIRT=3 as when IIRT=5, and countries with IIRT=4 (partial democracy)are predicted to have an ERR lower by 3.4 percentage points than even autocracies. The most democratic(ADI= 1) countries are also predicted in specification (at D a very low level of significance) have lower returns than autocracies. to
Returns and politicalregime type.
Specificationa: A B IC D
IRIS Indicator of Regime Type (IIRT) (1 9 7 4 -1 98 7 b; N=725) Dummy variable by regime t ipe (default is least democratic, IIRT= 1)
IIRT=2 IIRT=3 IIRT=4 IIRT=5 (most democratic)
-0.48 (.767) 5.46 (.107) -0.076 (.967) 3.94 (.055)
-0.56 (.733) 1.61 (.636) -3.68 (. 058) 0.322 (.892)
0.24 (.885) 3.52 (.296) -0.82 (.657) 4.17 (.043)
0.49 (.766) 1.04 (.757) -3.35 (.091) 0.458 (.847)
Alesina democracy index (ADI) ( 19 7 4 - 19 8 2 b; N=369) level, default is least democratic (ADI=3) Dummy variable by democ
ADI=2 ADI= 1 (most democratic)
3.10 (.225) 2.93
2.86 (.257) -1.27
2.38 (0.349) 1.93
2.41 (.345) -1.52
Notes: a) for description of the variables includedin each specification see table 2; b) Annual values for time period; c) p-levels in parenthesis. Source: Authors' calculations.
In summary, there is no clear pattern that suggests that countries with more democratic regimes (as classifiedby the availableindices)have better projects, as measuredby ERRs. The very least democratic countriesperhaps do more poorly than others, but movingtowards a democracyfrom other levels not have any empiricallydiscernible impact on project returns.
C) Other liter2ntre political freedomand performance
These ambiguous findings roughly agree with other assessments of the degree of political freedom on aggregate economic performance. There is a sizeable literature which examines the impact of "democracy" on aggregate growth (e.g. Weede 1983, Scully 1988, Helliwell 1992, Barro 1994, Bhalla 1994, see Alesina and Perotti, 1994 for a review), much
3 of which uses the Freedom House index of political liberties 5 as the measure of democracy.
While it is quite difficult to reconcile the strikingly different findings of these papers, in spite of the fact they use almost identical dependent variables (economic growth) and measures of political freedom, we think a fair summary of the current state of the macro level literature on economic growth and political freedom would be involve six findings. First, higher levels of income are associated with higher levels of the Freedom House index of political liberties. Second, when some covariates are added, the level of the Freedom House index of political liberties does not have independent explanatory power for growth of per capita income. Third, controlling for reverse causation--from economic growth (hence higher levels of income) to political liberties--reduces the estimated effect of political liberties on growth. Fourth, the effect of political liberties on growth seems to be non-linear, the middle levels of the index (e.g East Asia) have higher levels of growth than either very low (e.g. OECD) or very high (e.g. Africa) levels. Fifth, as with nearly all growth regressions, a great deal depends on how the newly industrializing economies of East Asia are treated. This
3 Or the sumof the two FreedomHouse indicators. Two other studies-(Kormendiand Meguire1985, Greir and Tullock 1989)-use dummiesbased on the FreedomHouse civil index in cross-countrygrowth regressions.
is especiallyimnportant politicalquestions, as the East Asian countries were by and large for modestlyauthoritarianbut had very rapid growth.
V What do the ratesof return indicate?
We have establishedtwo results: higher levels of civil liberties are associatedwith better performanceon World Bank-financedprojects, and purely political libertiesand the type of politicalregime do not affect project performance. How should these findingsbe interpreted? So far, we have used project ERRs as an indicatorwithoutbeing specific about exactly what they are an indicatorof. Since the World Bank financesonly a fraction of aid-financed projects--andan even smaller fraction any particular government's investmentportfolio--it cannot be assumedthat the ERRs of Bank projects are representativeof overallgovernment returns. Do these resultsapply to all aid-financedprojects? Is performanceof governmentimplemented projects a proxy for overall governmentefficacy? More broadly, does the return on these aid-fnanced governmentprojects reflect the return to all investments? We address these questionsin the next three sections.
A) Are IRank projectcune
among aid project?9
There is little reason to believe that World Bank-financed projects are chosen very differentlythan projects of other donor agencies. Moreover, it is particularlyunlikelythat the selectionprocess for projects at the World Bank is biased in such a way as to produce results for a relationshipbetweenprojects and governance that would not apply to projects of other
- 33 -
The more difficultand important questions is whether the ERRs of World Bankfmanced projects indicatea degree of the efficacy of governmentacross countries. There are arguments for and againstthis supposition. On the one hand, sinceall countries are treated alike by the World Bank in terms of project selectionand fund availability,it is likely that systematicdifferencesin project returns do reflect countryspecific,rather than Bank specific factors. The Bank is quite centralized and the internal standardsfor project selection, appraisal, review, implementation and
3 supervisionare uniform acrosscountries6. In addition, in the determinationof lending
allocation--especially 'soft' IDA loans--there are pressures for an allocationacross countries of based on considerationsotherthan expected performance of projects. Finally, the World Bank's Articles of Agreementhave always been interpreted in such a way as to prevent an explicit considerationof politicalfactors so that project selectionat least in theory shouldhave been exogenouswith respectto the variables we are considering. Together, these factors suggestthat differencesin ERRs across countries probably do not reflect large differencesin Bank treatmentnor in projectselection rather it is likely that thesedifferencesreflect real differencesin governmentinvestmentreturns across countries. On the other hand, this cannot be established. Countrieschoose whichof their possible
36Thiswasevenmoretrue in the periodprecedingthe reorganization 1987whichdecentralized the of to regions manyformerlycentralfunctions. - 34 -
set of projects to financethroughthe World Bank. This choice may involve'cream skimming" --governmentsseekingBankfinancingfor projects with very high expectedERRs--or'laggard offeringthe Bank the most problematicprojects. To the extent that dumping"--governmnents the mechanismwherebythe governmentand the Bank agree on whichprojectswill be fimanced differs across countries, the average return across countries cannotbe interpretedas reflecting governmentperformance. The most worrisomefact against an interpretation of ERRs as an indicatorof government efficacyis their lack of correlation with other measuresof governmentefficacy. Risk Intelligence(BERI) and InternationalCountryRisk Guide The BusinessEnvironmental for (ICRG) data rank countriesby various characteristics that indicatetheir attractiveness foreign investment--e.g.,red tape encountered, corruption, and bureaucraticdelay. These various measures are not significantlycorrelated with the ERRs in our data set: they are not good measures of the samething. It is possible that these private sector ratings are flawed indicators of governmenteffectiveness;they are designed for foreign investors,and governmentsthat are not attractiveto foreign investors may be reasonablyeffectivein implementingtheir own projects. Nevertheless, the lack of correlationof projectperformance with other indicatorsof governmentefficacy does raise questions.
- 35 -
a Q Are projects retimq 2proxy
for overall returns tn invertment?
In earlier work on the effect of policy distortion variables--e.g., the blackmarket premia--onproject performance(Isham and Kaufmann 1995), it has been arguedthat the ERRs of World Bank-financedprojectsare reasonably representativeof overall investment performance. How closelyrelated are overall returns to capital and these ERRs? This is return to capital is almost never measured. difficult to answer as the economy-wide A simple growth accountingexercise can circumvent this measurementproblem. Suppose that growth of outputper worker can be decomposedinto the growthof capitalper worker and a residual as in equation 1:
y = ak*k
where lower case letters representper worker and the "dot" representsthe percentagetime rate of growth. In a neoclassical(Solow)framework, the coefficient on capitalis just the share of capital total output,
We typically do not observe r, the return on capital. However, we hypothesizethat r for each country I varies systematicallyacross countries with the observed rate of return on projects, ERR:
ri = r + P *ERRi
We can combine these three equationsand estimate the following equation:
- 36 -
so that the first term identifiesthe average rate of return to capital and the secondparameter the impact of an increase in ERR on the overall return to capital. The results of estimating this equationusing cross nationaldata are presented in table 11. The estimatedaveragereturn varies between 10.2 and 17.8 percent, a reasonable range of values. The impact of ERR on the overall rate of return is between0.44 and 1.08 (with just two countries excluded). The estimates suggest that the return on Bank projects, the ERR is related one-for-oneto the economy-widerate of return which suggestsit is a very good proxy for overall investment performance. This small piece of econometricevidence fortifies the argumentsin earlier work for the use of the ERR as an indicator of the economy-widerate of return. However, the multicollinearity problems in identifyingthe interactiveterm are extremelysevere. With just two variables, over 50 percent of the overall growthrate variance is explainedand hence the F-tests of joint exclusion are overwhelming. However,the estimates of each term individuallyare very imprecise and cannot reject zero (or any other value for that matter) for the the individualterms. We are obviously not happywith this, but see no solution.
- 37 -
Relationshipof overall returns to capital and the country averageof project rates of return (ERR). Unweighted Full Weightedby numberof
Withoutoutliersb Full .102
Return to capital Impact of ERR on return to capital
Notes: a) observationsare weightedby the square root of the number of projects, b) the two outliers excludedare Syria and Pakistan, c) standard errors in parentheses,d) R-squaredof the unweighteddependent variable. Source: Authors' calculations.
No one would pretendthat the degree of civil or political liberties or the choice of politicalregime is--or ought to be--based on an assessmentof strictly economiccosts and benefits. What is often meant by the definition of 'human rights" are exactlythose elements of the interaction of human beingsthat go beyond any social welfare calculus. That said, we have presentedempiricalevidence that, beyond their intrinsicmerit, civil libertieshave direct instrumentalbenefits in improving the performance of a leasta subset of governmentinvestmentprojects, those financed by the World Bank. We believe that this is an additionalpiece of evidence for the view that increasingpublic voice and accountability--
through both participationand better governance--canlead to greater efficacyin government action, includingdevelopmentassistance (Picciotto 1994; OECD 1995). On the other hand, the empirical evidence does not provide evidenceof a relationship between "democracy'and the particular performanceindicatorthat we examine(althoughwe hasten to emphasizethe statisticalfact that lack of evidencefor is not necessarilyevidence against). This merely suggestswith microeconomicdata that which is known from aggregate data: while some authoritariangovermnentshave not providedeconomic benefits, other countriesunder authoritarianregimes (particularlyin East Asia) have experiencedefficacious governments,widespreadeconomic growth, and enormousreductionson poverty.
References Alesina, Alberto, Sule Ozler, Nouriel Roubini and Philip Swagel. 1992. "PoliticalInstability and EconomicGrowth." NBER Working Paper No. 4173 (September). Cambridge, Mass.: NationalBureau of Economic Research. Alesina, Alberto and RobertoPerotti. 1993. "Income Distribution,Political Instability, and Investment."NBERWorking Paper No. 4486 (October). Cambridge,Mass.: National Bureau of EconomicResearch. Alesina, Albertoand RobertoPerotti. 1994. 'The Political Economyof Growth: A Critical Survey of the Recent Literature." Wnrld BRank Fr2onomicReview 8(3): 351-373. Banks, Arthur S. 1979(and subsequentupdates). 'Cross-NationalTime Series Data Archive." Centerfor Social Analysis, State Universityof New York at Binghamton. Barro, Robert. 1994. "Democracyand Growth." NBER WorkingPaper No. 4909 (October). Cambridge,Mass.: National Bureau of EconomicResearch. Bhalla, Surjit. 1994. "Freedomand Economic Growth: A Virtuous Cycle." Mimeo. Brautigam, Deborah. 1992. 'Governance, Economy, and Foreign Aid." Studies in Comparative International Development (Fall) 27, 3: 3-25. Coppedge, Michael and WolfgangH. Reinicke. 1990. "MeasuringPolyarchy." Studies in Comparative International Development (Spring) 25, 1: 51-72. Dreze, Jean and AmartyaSen. 1989. Hunger and Public Action. New York: Oxford UniversityPress Gastil, Raymond. 1987. Freedomin the World: PoliticalRights and CivilLiberties. New York: Greenwood Press. Grier, KevinB. and GordonTullock. 1989. "An EmpiricalAnalysis of Cross-National EconomicGrowth, 1951-1980." Journal of MonetaryEconomics24, 259-276. Greene, WilliamH. 1981, "On the Asymptotic Bias of the OrdinaryLeast Squares Estimator of the Tobit Model."Econometrica, 49, 3: 505-513. Haggard, Stephanand StevenB. Webb. 1994. Votingfor Reform: Democracy, Liberalization,and EconomicAdjustment. New York: Oxford UniversityPress. Helliwell,John. 1992. "EmpiricalLinkages Between Democracyand Growth," NBER
- 40 -
Working Paper No. 4066 (May). Cambridge, Mass.: NationalBureauof Economic Research. Hunmana, Charles. 1986. WorldHuman Rights Guide. London: Hodder and Stoughton. Isham, Jonathan and DanielKaufmann. 1992. "Does Policy BasedLendingAffect the Productivityof InvestmentProjects?" Background paper for AdjustmentLending and Mobilizationof Privateand Public Resourcesfor Growth. Washington:The World Bank.
1995. "The Forgotten Rationale for Policy Reform" Background paper for
WorldDevelopmentReport 1991. Washington: The World Bank. Isham, Jonathan, Deepa Narayanand Lant Pritchett. 1995. "Does ParticipationImprove Performance:EstablishingCausality with SubjectiveData." 7he WorldBank Economic Review 9(2):175-200 Kaufmann, Daniel and Yan Wang, 1995. "MacroeconomicPolicies and Project Performance in the Social Sectors." WorldDevelopment 23(5):751-765. Knack, Stephenand Philip Keefer. 1994. "Institutionsand EconomicPerformance:CrossCountry Tests using AlternativeInstitutional Measures." Forthcomingin Economics and Politics. Kormendi and Meguire. 1985. "MacroeconomicDeterminantsof Growth." Journal of Monetary Economics16:141-163. Korten, Frances F. And Robert Siy, Jr., eds. 1988. TransformingBureaucracy: The Experienceof the PhilippineNational Irrigation Administration. WestHartford, Conn.: KumarianPress. Little, I.M.D. and J.A. Mirrlees. 1991. "Project Appraisal and Planning TwentyYears On." Proceedingsof the WorldBank Annual Conferenceon DevelopmentEconomics1990. 351-82. Mauro, Paulo. 1995. "Corruption,Country Risk and Growth." QuartertyJournalof Economics, forthcoming. Originizationfor EconomicCooperationand Development. 1995. 'ParticipatoryDevelopment and Good Governance.' DevelopmentCo-operation GuidelineSeries. Paris: OECD. Paul, Samuel, "Accountability Public Services: Exit, Voice, and Control,"World in Development,July 1992.
- 41 -
---------------. 1994. "Does VoiceMatter?" Policy Research Working Paper No. 1388. Finance and Private Sector Division, the World Bank. ---------------. 1996. "A Citizen Report Card on Public Services: Mixing Barks and Bites?" Mimeo. Picciotto, Robert. 1994. "PuttingInstitutionalEconomicsto Work: From Participationto Governance." Paper presentedat the conference: Economicand PoliticalInstitutions for Development:Implications Assistance. Washington, DC. for Pohl, Gerhard, and DubravkoMihaljek. 1992, "Project Evaluation and Uncertaintyin Practice: A StatisticalAnalysisof Rate-of-ReturnDivergencesin 1,015 World Bank Projects," WorldBank EconomicReview 6(2):255-277. Pourgerami, Abbas. 1988. "The Political Economyof Development:a Cross-National Causality Test of Development-Democracy-Growth Hypothesis." PublicChoice 58:123-141. Pritchett, Lant H. and LawrenceH. Summers, 1993, "The Structural AdjustmentDebate" American EconomicReview 83:383-89. Putnam, Robert with Robert Leonardiand RaffaellaNanetti. 1993. MakingDemocracy Work. Princeton: PrincetonUniversityPress. Scully, Gerald W. 1988. "The InstitutionalFramework and EconomicDevelopment." Journal of PoliticalEconomy96(3):652-62. Shea, John. 1993. "Instrumental Relevancein Linear Models: A Simple Measure." Working Paper No. 9312, SocialSystemsResearch Institute. University of Wisconsin-Madison. Squire, Lyn and Herman van der Tak. 1975. EconomicAnalysis of Projects. Baltimore: Johns Hopkins Press. Wade, Robert. 1994. "PublicBureacracyand the Incentive Problem." Backgroundpaper for WorldDevelopmentReport 1994. Weede, Erich. 1983. "The Impact of Democracy on Economic Growth: SomeEvidencefrom Cross-NationalAnalysis." Kyklos 36(1):21-39. World Bank. 1992. Governance Development. Washington, D.C.: WorldBank. and
1993. Annual Evaluation Results for 1991. Washington, D.C.: World Bank.
- 42 -
. 1994. World Development Report 1994. New York: Oxford University
1995. "The World Bank and Participation." Operations Policy Department,
- 43 -
AppendixTable A. 1: Summary statistics of independentvariablesa Variable
A) Civil liberties
(1 to 7)
55.13 2.50 2.45
17.97 0.91 1.12
(13 to 91) (1 to 4) (i to 4)
38 56 56
1986 1985 1985
organize B) Political
(1 to 7)
In d ex_
_ _ _ _ _ _
_ _ _ _ _ _
(1 to 4) (I to 3)
_ _ _ _ _ _ _
_ _ _ _ _ _
_ _ _ _ _ _
C) Indicators of Civil Unrest
Riots Protest Demonstratio n s
_ _ _ _ _ _ _ _
_ _ _ _ _ _
_ _ _ _ _ _
(-0.79 to 14.54)
_ _ _ _ _ _
_ _ _ _ _ _
Notes: a) Summarystatisticsfrom 1974 to 1990 for the 56 countrieswith projects in Tobit b) and IV specifications; Data sources in the text and in the list of references. Source: Authors' calculations.
Policy Research Working Paper Series Contact for paper S. King-Watson 31047
Date November 1995
WPS1531 Some New Evidence on Determinants Harinder Singh of Foreign Direct Investment in Kwang W. Jun Developing Countries WPS1532 Regulation and Bank Stability: Canada and the United States, 1870-1980 WPS1533 Universal Banking and the Financing of Industrial Development WPS1534 The Evolution of General Banking Michael Bordo
D. Evans 38526
Charles W. Calomiris
D. Evans 38526 D. Evans 38526 D. Evans 38526 D. Evans 38526
WPS1535 Financial History: Lessons of the Past for Reformers of the Present WPS1536 Free Banking: The Scottish Experience as a Model for Emerging Economies WPS1537 Before Main Banks: A Selective Historical Overview of Japan's Prewar Financial System WPS1538 Contingent Liability in Banking: Useful Policy for Developing Countries? WPS1539 The Rise of Securities Markets: What Can Government Do? WPS1540 Thrift Deposit Institutions in Europe and the United States WPS1541 Deposit Insurance
Gerard Caprio, Jr. Dimitri Vittas Randall iroszner
D. Evans 38526
Anthony Saunders Berry Wilson
D. Evans 38526
D. Evans 38526 P. Infante 37642 D. Evans 38526 D. Evans 38526
WPS1542 The Development of Industrial Pensions in the United States in the Twentieth Century WPS1543 The Combined Incidence of Taxes and Public Expenditures in the Philippines WPS1544 Economic Performance in Small Open Economies: The Caribbean Experience, 1980-92
Samuel H. Williamson
Shantayanan Devarajan Shaikh I. Hossain
C. Bernardo 37699
F. Desmond McCarthy Giovanni Zanalda
M. Divino 33739
Research Working Paper Series Contact for paper G. Ilogon 33732 A. Turner 30933
Title WPS1545 International Commodity Control: Retrospect and Prospect WPS1546 Concessions of Busways to the Private Sector: The Sao Paulo Metropolitan Region Experience WPS1547 Testing the Induced innovation Hypothesis in South African Agriculture (An Error Correction Approach WPS1548 The Relationship Between Farm Size and Efficiency in South African Agriculture WPS1549 The Forgotten Rationale for Policy Reform. The Productivity cf Investment Projects WPS1550 Governance and Returns on Investment: Ar: Empirical Investigation
Author Christopher L. Gilbert
Date November 1995
Jorge M. Rebelo Pedro P. Benvenuto
Colin Thirtle Robert Townsend Johan van Zyl
M. Williams 87297
Johan van Zyl Hans Binswanger Colin Thirtle Jonathan Isham Daniel Kautman
M. Williams 87297
S. Torres 39012
Jonathan Isham Daniel Kaufman Lant Pritchett
S. Fallon 38009
This action might not be possible to undo. Are you sure you want to continue?
We've moved you to where you read on your other device.
Get the full title to continue reading from where you left off, or restart the preview.