International Democratic Development

Democracy and Economic Development

David Gillies April 11, 2005

Among the reasons sometimes made for promoting democracy abroad is the claim that accountable and open political systems that respect human rights, practise the rule of law and formulate policy through informed choice are more likely than other systems of government to develop into dynamic, market-oriented economies.

As David Gillies illustrates through an imagined development dystopia, while political institutions can influence economic performance for better or worse, the relationships among political system, policy choice and economic performance are often more complex than the claims of some democracy-promotion boosters.

In this paper, Gillies reviews the reasons why aid donors have taken up rights, democracy and governance promotion, surveys research that questions the causal link between democracy and growth, and underlines the quality of governance as a significant influence on economic performance.

Gillies surveys the addition of political considerations in development aid policy, showing how initial World Bank acknowledgement that a crisis of governance was at the root of African underdevelopment prompted bilateral donors to incorporate human rights, democratization and good governance as part-and-parcel of the development puzzle. For some official aid agencies, governance has become the master political variable. Gillies then reviews the empirical research that examines whether there is a virtuous circle in which democracy and growth go together, a cruel trade-off between democracy and growth, or simply no convincing relationship. The evidence suggests that there is no iron law or unambiguous causality linking democracy to high economic performance. The evidence from some East Asian and South East Asian economies shows that regime type may sometimes be a poor predictor of economic performance, and that effective governance is possible without democracy. Nevertheless, democracy appears to have an indirect influence on growth through its positive impact on some of the determinants of economic development, such as education, human capital formation, inflation, investment, and income inequality.

If the relationship between democracy and economic performance is indirect at best, donors may need to shift from an “all good things go together” approach to less lofty ambitions that focus on such enabling conditions for growth as promoting economic accountability and transparency, and a predictable set of rules to govern economic interactions and public policy. Without a strong empirical basis linking democracy to economic growth, international donors may need to look to other kinds of claims, such as foreign policy values, to promote the intrinsic worth of liberal democratic values.

Editor’s Note

Over the past 20 years the promotion of democracy has become an increasingly important element in Canadian foreign policy. This is reflected in particular in the growing expenditure on technical assistance to encourage democratic development. The papers in this volume are part of the IRPP’s International Democratic Development research program, which assesses Canada’s policies and programs in delivering this kind of assistance (for an excellent review of the evolution of Canadian democracy promotion policies, see Gerald Schmitz’s earlier paper in this series). The objectives of the project are to establish how Canada can contribute most effectively to the collective international effort to assist democratic development and to determine best practices for delivery of Canadian assistance.

An active democracy-promotion program raises critical questions about the right of one state to intervene in the internal governance of another. For that reason there has been considerable debate about the grounds on which it can be justified. The two papers presented here deal with the justifications that arguably have the greatest claim to legitimacy.

The first paper, by David Gillies, addresses what might be called the “normal case”– interventions that have been used by donors of economic assistance to underdeveloped countries to try to improve the effectiveness of their assistance. These have become routine elements of most donors’ foreign aid policies. While good governance has been what Dr. Gillies calls “the master value” organizing this form of intervention, it has become increasingly coupled with the broader concept of “democratic development.” This has occurred gradually and continues to be contentious. Dr. Gillies explains the evolution of donors’ thinking about the relationship between economic assistance and “political development,” identifies the issues in the debate about this relationship and discusses the relationship’s implications for donor policy and programs.

The second paper, by Jane Boulden, deals with interventions that have been more exceptional in both their frequency and consequences. These have involved some form of military engagement and the more or less complete reconstruction of systems of government. In the first instance in the 1980s they evolved from the limited concept of the international community’s responsibility to end or prevent conflict through peacekeeping into the broader concept of peace-building – the promotion of conditions that would reduce the likelihood of the occurrence or recurrence of conflict. More recently, this justification has evolved into what might be called a doctrine of the right or responsibility of the international community to intervene in failed or failing states, either in the interests of preventing a humanitarian crisis or reducing potential threats to the security of other states. Beyond the fundamental principle involved (that is, the question of when the international community would be justified in undertaking such radical interventions), Dr. Boulden points out that there are important questions to be asked about the democratic reforms that should be incorporated into peace-building policies, and how democratic-development strategies should be included in these policies.

An understanding of the issues raised in these two papers is central to the discussion of the role that democracy promotion should play in Canada’s foreign policy. They therefore provide a context for other papers in the series, which explore both the nature and methods of delivery of Canadian assistance to democratic development.

George Perlin 
April 2005

An Imagined Dystopia: Economic Decay in a Difficult Development Partnership

The local representatives of the global financial institutions and assorted liberal democracies sped out to a secluded lodge on the outskirts of the city to ponder the radical policy shifts of Izania’s president. Just a few years earlier, development aid and experts of every stripe poured into this sleepy former colonial outpost. With an enlightened and popular leader, economic policies in tune with the Washington consensus and a well-educated and disciplined labour force, the Izania of the 1990s saw steady economic growth, significant foreign direct investment and a flourishing export of gold, silver and platinum with growing regional markets for its wheat, maize, coffee and tea. The country’s courts and police were relatively independent, there was a vigorous press and a dizzying variety of community groups found shelter beneath the mighty ruling party. There were even regular elections, although the outcome was never in doubt, and world opinion glossed over the intimidation meted out by party loyalists to the forces of dissent and reaction. In this idyll of political stability, donors worked hand-in-glove with the competent administration to modernize railways, road systems, and energy grids and fund a cornucopia of aid projects to build sustainable livelihoods in the rural heartlands loyal to the ruling elite.

But today the policy certainties that once made Izania a good place to do business no longer exist, replaced by ideological fervour, political instability and profound policy change. Dissent has swept away the complacent assumptions of a benevolent autocracy. Threatened by calls for constitutional reform and an alliance among civil society, organized labour and the urban opposition, the ruling party purged its reformist wing, circled its wagons and returned to the ideological roots of its pre-independence liberation struggle. The opposition was quickly linked to colonial forces. The uneasy contract with settler capital was broken, and the private farms that had underpinned Izania’s wealth were forcibly expropriated. With property rights under attack, the rule of law quickly crumbled. The police turned a blind eye to the farm seizures, and the courts legitimized the erosion of property rights. Armed militias roamed the countryside and the city slums, and expatriate farmers, the leaders of NGOs, journalists, trade unionists and the urban poor were targets of merciless attacks.

The impact on the economy was immediate and unrelenting. Investment trickled to a halt, and, desperate to shore up its support, the government printed money to finance subsidies on food and gas. The exchange rate was kept artificially high, while a parallel market became the hub of the economy and weekly signalled the catastrophic depreciation of the Izanian dollar. Inflation soared to 500 percent, and the economy shrank by 20 percent. Interest rates were negative, and saving funds were rendered worthless by a government that needed low interest rates to repay debts arising from its out-of-control borrowing. In the countryside, production ground to a halt, and donors handed out food to stave off hunger. Parliament, the press and the few remaining pressure groups were singularly ineffective in engaging the ruling party on the causes of the downturn or the need for policy reform.

All this had happened in just 18 months. Sitting poolside, the donor representatives worried that the window for dialogue and policy change was fast closing. In its place was a new brinkmanship in which the donor democracies had cut government-to-government aid to protest the growing illiberalism of Izania’s faltering democracy and had fallen back on the drip feed of humanitarian assistance to salve their collective conscience. In turn, Izania’s rulers used donor conditionalities as proof of foreign meddling and appealed to the country’s regional neighbours to help them stand firm against these foes of liberation and national sovereignty.

Democracy and the Market: A Brief Survey of Donor Policy and Empirical Research

Izania’s imagined dystopia captures some of the complex relationships among political systems, policy choice and economic performance. The causal arrow linking political system to economic performance is not a direct one. Izania has a democratic facade: opposition parties are legal; elections are held; Parliament, the courts and the independent press still function. However, these institutions are gravely weakened and economic policy is now being determined by fiat rather than political debate and informed choice.

The relationship between democracy and economic growth has preoccupied thinkers since the seventeenth century. Three main views have emerged: there are those who see a virtuous circle in which democracy and growth go together; those who see a cruel trade-off; and those who find no convincing relationship between democracy and growth (Kurzman, Werum and Burkhart 2002; Przeworski et al. 2000). These views are no longer simply a source of scholarly debate. The spread of democratic values and market economics, and the violent backlash against these forces of globalization, put the relationship between political systems and economic performance near the forefront of international relations. Moreover, international development agencies now make bold claims linking democracy with growth to justify programs of political aid and good governance that intrude on the domestic jurisdiction and national sovereignty of recipient countries. A variety of instrumental and normative motives underpin this shift in donor thinking and practice.

By the 1990s, the World Bank and other international development institutions began to acknowledge the role of political variables in determining the outcomes of economic reforms and economic development assistance. The OECD’s Development Assistance Committee saw a “vital connection between open, democratic and accountable political systems, individual rights, and the effective and equitable operation of economic systems” (OECD 1989). Aid was once thought to be the catalyst of growth, and prosperity the genesis of democracy. By the 1990s, development theorists and donor agencies were beginning to argue that political openness and respect for human rights must accompany, not lag behind, economic growth.

Theorists such as Amartya Sen and annual surveys such as the UNDP Human Development Report have helped build an international consensus that the purpose of development is the expansion of human capacity and choice. As the individual was gradually returned to the centre of the development stage, it became less tenable to speak of “generations of rights” in which civil liberties and political rights could be postponed until basic human needs had been met.

Civil and political rights such as access to information and a free press have real instrumental value for aid donors because they can help uncover the inefficiencies of corruption or inept governance. A free press acts as an essential early-warning device against impending famine, for instance, by ensuring that there is public debate and prompt state action. Several famines – notably in China in 1958-61 and in the Sudan and Ethiopia in 1984 – have occurred under authoritarian regimes that allow little free expression or public debate of state policies.

Donors now recognize that the fostering of democratic processes in government and society contributes to economic development by releasing creative energies, enhancing accountability and deepening participation. The consensus among aid donors on the importance of human rights and democratic pluralism in economic development has led to the growth of a new kind of development assistance. The human rights agenda is served by projects to strengthen the voice and institutional capacity of nongovernmental organizations – anything from paralegal-service providers to lobby groups, labour movements, media organizations or human rights monitors. The governance agenda is even broader and can cover the spectrum of administrative, legal and, increasingly, security sector reform. A sample of any leading donor’s project portfolio could reveal projects to strengthen the rule of law, reform the civil service, curb corruption, strengthen an election commission, modernize a police force, improve a line ministry’s financial management and so on.

International development agencies added a democracy and governance dimension to their programs based in part on values such as pluralism and respect for human rights. For some donors, promoting governance and democracy is closely linked to their national role conceptions. For Canada, the link is to the long-standing domestic values of respect for diversity and pluralism, and to “peace, order and good government.” For the United States, “the idea of democracy is closely linked to the national identity” and its history as “a shining beacon to individuals and families seeking personal freedoms” (USAID 2003).

Alongside normative interests, most donors also acknowledge more instrumental motives underpinning their democracy and governance promotion activities. These can range from foreign policy interests to efficiency and effectiveness arguments to ensure a return on aid investments. USAID, for example, is clear that “the strategic and long-term domestic and foreign policy objectives of the United States are best served by enlarging the community of democratic nations worldwide” (2003).

The invention or, more accurately, the discovery of today’s good governance agenda stems from the failures of the World Bank’s economic reform and structural adjustment programs in Africa. With its landmark 1989 study entitled Sub-Saharan Africa: From Crisis to Sustainable Growth, the World Bank acknowledged a political dimension to economic development and recognized governance as the independent variable explaining Africa’s underdevelopment:

Underlying the litany of Africa’s development problems is a crisis of governance. By governance is meant the exercise of political power to manage a nation’s affairs. Because countervailing power has been lacking, state officials in many countries have served their [own] interests, without fear of being called to account…and patronage becomes essential to maintain power. The leadership assumes broad discretionary power and loses its legitimacy. Information is controlled and voluntary associations are co-opted or disbanded. This environment cannot support a dynamic economy. At worst, the state becomes coercive or arbitrary. These trends, however, can be resisted [by building] a pluralistic institutional structure, [respecting] the rule of law, and vigorous protection of the freedom of the press and human rights. (1989, 60-1)

The World Bank has applied governance criteria in China after Tiananmen Square, in the former Zaire and, more recently, in Zimbabwe to suspend or downgrade its operations. However, the bank’s charter of strict neutrality has required a careful distinction between the form of the political system and the quality of governance. In this narrower reading, effective public sector management and sound overall development management are criteria for good governance rather than civil and political rights per se, or the openness of the political system (Gillies 1997; 1993). In this reading, the rule of law is not an end in itself but is important to the extent that it contributes to economic development. A predictable set of rules is essential to reduce business risks, enforce contracts, lower transaction costs and prevent arbitrary decisions by the state. One important exception in the bank’s overall avoidance of the rights agenda is the issue of property rights, which are defended as an axiom of a functioning market economy.

The European Bank for Reconstruction and Development (EBRD) is the single exception to the general rule that multilateral financial institutions avoid political considerations in making lending decisions. Article 1 of the EBRD charter states that “in contributing to economic progress and reconstruction, the purpose of the Bank shall be to foster the transition towards open, market-oriented economies and to promote private entrepreneurial initiatives in the Central and Eastern European countries committed to applying the principles of multi-party democracy, pluralism and market economics.” Contributing international instruments that inform the bank’s political considerations include the Helsinki Accords, the Organization for Security and Cooperation in Europe and the European Convention on Human Rights. EBRD views the big-bang expansion of the European Union from 15 to 25 member states as a vindication of its contribution to democracy, economic development and regional integration. In constructing annual country strategies, the EBRD looks at explicitly political indicators to determine the degree to which countries are meeting the charter requirements for multiparty democracy, respect for human rights and the rule of law. Specific criteria used in the annual survey include: free elections; executive accountability to an elected legislature; judicial independence; freedom of speech, association and assembly; freedom of movement, conscience and religion; and the right to private property.

Where EBRD recipient country policies are inconsistent with the charter principles, paragraph 3, article 8 of the charter allows the board of governors flexibility in formulating the bank’s response. In cases of fraudulent elections, corruption or unwillingness to implement reforms, EBRD is able to postpone or suspend operations, as it did in Turkmenistan, or caution heads of state about noncompliance with EBRD requirements, as it did in Belarus in 2001.

While the World Bank was the architect of the governance agenda, it was the bilateral donors and multilateral institutions such as the United Nations and the Commonwealth that more explicitly linked governance to the wider agendas of democratic pluralism and human rights. In 1990, the US Agency for International Development began its democracy initiative. In a much publicized speech he gave that year, the then British foreign minister Douglas Hurd argued bluntly that “poverty does not justify torture, tyranny or economic incompetence.” Hurd called for a concerted approach by the major donors, and he announced the establishment of the Westminster Foundation to assist fledgling political parties, an initiative similar to those of the German Stiftung and the American National Endowment for Democracy. Hurd set out the new British government position by clearly linking funding decisions to trends in the quality of governance: “Countries which tend towards pluralism, public accountability, respect for the rule of law, human rights, and market principles should be encouraged. Governments which persist in repressive policies, corrupt management, wasteful and discredited economic systems should not expect us to support their folly with scarce aid resources which could be used better elsewhere” (quoted in Gillies 1997, 26).

In 1990, President François Mitterand announced that in future France would be less generous in its aid to “regimes which conduct themselves in an authoritarian manner without accepting evolution towards democracy” (quoted in Gillies 1997, 17). In 1991, Germany introduced a new set of policy guidelines with five funding criteria: respect for human rights, popular participation in the development process, the guarantee of a predictable legal framework, a market-friendly approach to economic development and a commitment to poverty alleviation. The European Commission added a human rights clause to its Lomé Convention, which underpins aid and trade relations with African, Caribbean and Pacific countries.

Nowhere was the emerging early-1990s donor consensus better reflected than in the Development Assistance Committee (DAC) of the OECD. Using some remarkably tough language, the DAC even accepted political conditionality as a legitimate instrument for defending human rights. It declared that while emphasizing a preference for “positive support,” DAC member states “also wish to be clear about the potential for negative measures affecting the volume and form of aid, in areas of serious and systematic violations of human rights or brutal reversals from democratization, or when a complete lack of good governance renders efficient and effective aid impossible” (OECD 1993).

In the twenty-first century, the DAC has taken a more balanced approach to the challenges donors face with “difficult partnerships” (OECD 2001). The language on political conditionality has softened – the DAC notes that it works “only where there is internal ownership of the conditionality by reformers who are in a position to use it to advance their reform programs.” This is generally the opposite of the case with “difficult partnerships.” Instead, the DAC recognizes that “it is important to support the poor in countries with severe governance problems, including conflict-prone countries.” These “difficult partnerships” arise in settings where “development objectives play little role compared with the prolongation of power” and where “genuine participatory development is fundamentally compromised [by]…corruption and political repression [which] are commonly associated with such regimes” (OECD 2001, 4). Recognizing the potential loss of policy influence in ending government-to-government aid, the DAC suggests improved donor coordination, an alignment of all policy instruments (trade, aid, security, investment) and indirect influence on policy reform through internal and external civil society change agents.

Martin Doornbos is one commentator who argues that governance no longer has the primacy it did in the early 1990s as either an operational tool or a policy-making concept for aid donors. And practical observers such as Merilee Grindle have called for more realism and priority-setting – what she terms “good enough governance” – rather than the impossibly sweeping set of governance reforms that some donors look for in countries emerging from conflict or with records as poor performers (2002). In a similar vein, Doornbos concludes that “notions of good governance are likely to remain part of the donor parlance, but with less ambitious anticipation about the scope for intervention and political restructuring that was attached to them earlier” (2003,16).

However, if the assumptions underpinning the G8 Africa Action Plan are anything to go by, donors continue to focus on governance as a tool for policy choice, even if its utility as an operational and programming concept looks less compelling. In that sense, not much has changed since the emergence of the donor democracy and governance agenda in the early 1990s. If anything, the evidence that governance and institutions do matter is now conventional wisdom, not just in donor capitals, but also in increasing numbers of developing countries. This may be linked to two features of international relations in the twenty-first century: “first, democracy’s status as the predominant form of political governance within the Westphalia nation-state system; and second, the emergence of an international norm that considers democracy promotion to be an accepted and necessary component of international behaviour” (Schraeder 2003, 22). Aid donors can see their governance and security agendas partly replayed, at least rhetorically, in the African development blueprint for the twenty-first century, the New Partnership for Africa’s Development (NEPAD).

At the Kananaskis G8 Summit in 2001, the leaders of eight major industrialized countries met with African leaders and welcomed the NEPAD initiative as the basis of a new development partnership with Africa. In designing its Africa Action Plan as a response to the NEPAD, the G8 leaders at Kananaskis recognized that the NEPAD “offers something different. It is first and foremost a pledge by African Leaders to the people of Africa to consolidate democracy and sound economic management, and to promote peace, security and people-centred development. They have undertaken to hold each other accountable for its achievement. They have emphasized good governance and human rights as necessary preconditions for Africa’s recovery” (G8 2002).

The NEPAD calls ambitiously for an average annual growth rate of 7 percent to be sustained over 15 years as the engine of Africa’s economic recovery and suggests that “half or more” of new OECD country aid “could be directed to African countries that govern justly, invest in their own people and promote economic freedom.” This starry-eyed optimism aside, a genuinely novel feature of the new social contract between the donor community and Africa is the inclusion under the NEPAD of an African Peer Review Mechanism (APRM) as the modality to influence the volume and direction of significant external aid, investment capital and debt relief through “enhanced partnerships” with countries who are “governancing well.” As the G8 Africa Action Plan puts it, “the peer review mechanism will inform our consideration of eligibility for enhanced partnerships. We will each make our own assessments in making these partnership decisions. We will not work with governments which disregard the interests and dignity of their people” (NEPAD 2001).

The essence of the APRM is that those countries that take the mechanism pledge hold each other accountable in achieving norms of good governance and compliance with stated economic policies. Under the mechanism, leaders found in violation of these norms will undergo a process of constructive dialogue with their Africa peers in an effort to put their governance performance back on track. The jury remains out on the prospect of the APRM as a way to embed democratic governance in Africa. While the new democratic administration of Mwai Kibaki in Kenya is the first African government to submit itself to the APRM, there remain considerable political obstacles to overcome in designing by consensus a set of governance criteria that are, in the words of the African architects of NEPAD, consistent with “global standards” of democracy. The special circumstance of Zimbabwe, where an embattled ruling party has weakened democratic institutions in its struggle to dismantle the last vestiges of settler colonialism, is seen by some commentators as a litmus test of the NEPAD in general and of the APRM in particular.

Robert Bates has some persuasive insights on the determinants of Africa’s latest wave of democratization and the prospects for democratic consolidation in Africa. He argues that the economic determinants of democracy in Africa do not include the typical ingredients of growing prosperity, a rising middle class or government concessions to the demands of private agents whose resources they wish to tax. “Africa’s path to democracy is not that of the West. Rather, it most closely approximates the path taken by the socialist regimes of Eastern Europe.” Bates sees the economic building blocks of democracy as emerging, paradoxically, from the “attempts of revenue-starved fiscs and government creditors to extract political regimes from loss-making policies.” In effect, “the economic impetus for political reform originates not from the private economy, but from the needs of the public sector” (1999, 93). This analysis holds out some hope for real or imagined dystopias. African political elites, determined to maintain power at any cost, have constricted the private economy and middle classes and created disequilibria in markets, clientelism, fiscal crises and foreign debt. But these old forms of governance have proved economically unsustainable. As Bates interprets events, in Africa, internal and international pressures for democratic reform have occurred at the nadir of national and pan-African economic history.

No Ironclad Laws: The Ambiguous Research Linking Democracy and Economic Growth

In an early classic of the modernization literature, Seymour Martin Lipset argued that economic development creates a number of the preconditions for democracy. These include increased education, a strong middle class and private organizations (akin to de Tocqueville’s voluntary associations and Putnam’s social capital). Economic development for Lipset was a necessary, if insufficient, precondition for democracy – it had to be accompanied by the building of political legitimacy (Lipset 1959). In a more recent classic of political sociology, Rueschemeyer, Stephens and Stephens show from detailed historical studies that economic development prompted a shift in the balance of class power from the landed elites to the working and middle classes, leading to democratic outcomes (1992, 74-5). As Barrington Moore’s study of political development concluded, “no bourgeois, no democracy” (1966). It is tempting to push the findings of these scholars further and suggest that democracy is a deeply held value that is increasingly sought-after as the education and income levels of populations rise (Feng 2003, 261).

Donor agencies have paid some attention to the empirical relationship between governance and aid effectiveness. The World Bank’s study Assessing Aid identified and tested the statistical significance of three coefficients for aid, policy and the relationship between aid and policy. It concluded that aid works, but only in an environment where there are good or enabling policies (Dollar and Collier 1998). The policy implication of this conclusion was that aid should be targeted to good-policy/high-poverty countries, a prescription taken seriously by some donors – such as, arguably, CIDA, in its recent efforts concerning country “concentration.” However, donors appear to have paid less attention to the empirical evidence linking democracy and growth in the claims they have made for political aid and good governance. A survey of the empirical evidence suggests that claims that democracy promotion is one of the keys to sustained economic development have somewhat insecure foundations.

The three broad positions describing the linkage between democracy and growth are: win-win, or “virtuous circle”; trade-off, or “cruel choice”; and “no effect.” The cruel-choice school says that in modernizing societies, the first order of business is capital accumulation for rapid industrialization. Developmental democracies concerned with the creation of a just social order and a fair distribution of assets are at odds with this priority. Redistributive policies addressing social and economic rights shift public resources and inhibit savings essential for rapid economic growth. The cruel-choice view recognizes that rapid growth will widen inequalities but maintains that these inequalities will diminish over time as the benefits of growth trickle down to the poorest. In this view, the political management of growth must be premised on order, not on democratic participation or human rights.

The virtuous-circle perspective sees democracy and growth as good things that go together. In this view, constitutional limits on power enable citizens to plan their lives, and they also protect citizens against arbitrary or misguided economic policies. A more nuanced argument, based on some empirical evidence, suggests that pressures for democratic development are the outcome of modernization and the market. In South Korea, Taiwan, Indonesia and Thailand, authoritarian governments modernized by opening markets while suppressing labour and wages and muzzling dissent. As living standards improved, the South Koreans, Thais and Taiwanese pressed for rights and democracy and succeeded in opening up their political systems.

The transition to electoral democracy took longer in Indonesia, and it was closely connected with the collapse of Southeast Asian currencies in 1997 and with public fury over the cronyism and corruption of the Suharto regime. The case of Indonesia can in some respects be used to refute the virtuous-circle argument; it underlines the special dangers of situations where the rapid liberalization of the economy occurs within a fossilized and repressive political system.

As Feng points out, one reason Indonesia was particularly hard hit by the 1997 financial crisis was that the opening of the country’s financial markets was not preceded by the development of sound financial institutions (2003, 269). Large capital inflows were inefficiently allocated in a regulatory environment marked by kickbacks, corruption and bribery. The political elites had enormous opportunities to enrich themselves, and officials had considerable discretion to interpret regulations. Feng finds it significant that Indonesia was the only autocracy among the Southeast Asian Tigers at the time of the 1997 financial crisis and its economy was hit hardest by the meltdown. Its economy shrank by 13 percent in 1998, more than any other in the region. In 1999 and 2000, Indonesia’s recovery was the slowest (2003, 270).

The modernization theorists informed a long-standing donor preoccupation with economic development. However, the conventional wisdom that growth must precede political development can be challenged both on theoretical grounds and with some empirical evidence. First, regimes that suppress the civil liberties and political rights associated with democracy can pay economic costs. Managing complex modernizing societies requires information, but this commodity is in short supply in authoritarian states. By contrast, freedom of speech, of assembly and of association help keep a government informed. Public participation and scrutiny of state policy may avert planning disasters. Second, regimes that suppress rights can be unstable because they foster apathy and disaffection, which can lead to economic inefficiency. Regimes without legitimacy require repression to rule. And with coercion, additional resources are shifted to maintaining security and may be lost to development.

Property rights, which are fundamental to market-led development, are more secure under democratic than authoritarian regimes. Robert Putnam’s classic study of the civic roots of modern Italy underlines the positive impact of high levels of social capital on economic activity and political democracy, and it also shows that the leverage of governments to promote social priorities is much greater where the civic culture is able to play a dynamic role in social change (1993).

However, as a whole, the empirical evidence directly linking democracy and economic growth is ambiguous, at best. There is no ironclad law defining the relationship between democracy and economic growth. Time-series data usually show little or no direct relationship between democracy and growth. The effects, where they are demonstrated, appear to be more subtle and indirect. Kurzman, Werum and Burkhart reviewed 47 quantitative studies and recorded 19 finding a positive relationship between democracy and growth, 6 finding a negative relationship and 10 with no statistically significant relationship. A further 9 studies found a mix of nonsignificant or positive or negative findings, depending on the model used and the cases included. One study reported an inverted-U effect (Kurzman, Werum and Burkhart 2002).

Some authoritarian regimes have been able modernizers, but most have not. The economic record of Third World democracies has been no worse than that of many nondemocratic regimes. Inequalities in democracies such as India have been less acute – or at least more stable – than those found in non-democratic Third World countries. Contrary to the predictions of the cruel-choice school, one empirical study found a positive correlation among three indices: freedom, per capita product and the physical quality-of-life index (Sieghart 1983). Another found that democratic stability and “civil and political rights cannot prevail if social and economic rights are ignored” (Arat 1988).

The empirical data examining democracy’s effect on growth has focused on three ways in which that effect might be transmitted: investment, state spending and social unrest (Przeworski et al. 2000). Investment has been described as the single strongest predictor of economic growth. The cruel-choice school argues that democracies will dare not impose unpopular measures to increase investment. The virtuous-circle perspective holds that investment will grow in democratic societies where there is abundant economic information and property rights secure from arbitrary or unpredictable changes to the rules of the game.

Excessive state spending can act as a brake on growth by reducing national savings and diverting resources into interest payments. Both democracy and authoritarian rule can prompt excessive state spending. In the case of the former, there can be excessive spending on social priorities driven by populism; in the case of the latter, there can be excessive military spending, resulting in large tax burdens.

Social unrest has a negative impact on growth because it disrupts production, which creates disincentives for long-term planning and reduces investment. The cruel-choice school argues that autocratic regimes, such as Brazil in the 1960s, achieve growth by suppressing social unrest, while the virtuous-circle perspective maintains that democracies manage dissent more effectively by channelling grievances through formal political participation and by providing an arena in which mutually beneficial deals can be struck between capital and labour. A more nuanced position between these two poles is the inverted-U position, which argues an indirect effect of democracy on growth that is negative at low levels of democracy and positive at high levels of democracy.

Kurzman, Werum and Burkhart used pooled time-series data to demonstrate that democracy has a marginally significant positive effect on investment, which in turn has a positive effect on growth; that democracy has a negative effect on state spending, which in turn has a negative effect on growth; and that democracy has a robust inverted-U effect on social unrest, which in turn has a negative effect on economic growth (2002). This last finding suggests that the effect of democracy on growth is negative at low levels of democracy, positive at high levels of democracy and not significant at middle levels of democracy using the Freedom House scales of civil and political liberties.

It is difficult to draw firm conclusions from the empirical literature as to whether political freedom causes economic freedom, whether the causal relationship is the other way around, or whether there is a feedback effect between political and economic freedom. Feng undertook a series of causality tests and achieved results showing that political institutions, by virtue of their relatively permanent nature, influence economic institutions. In effect, political freedom has a causal effect on economic freedom. Importantly, these findings appear to hold irrespective of developed and developing society distinctions, suggesting a similar pattern of causation irrespective of the level of development. Feng boldly concludes that a major policy implication of his findings is the “importance of establishing democracy as the prevailing political order to facilitate…economic development” (2003, 274).

Some Implications for Donor Development Assistance Policies and Programs

As the imagined dystopia of Izania illustrates, political institutions matter, and they can influence economic growth for better or worse. Repression, instability and policy uncertainty powerfully constrain the economic decisions of individuals and firms with negative effects on growth. Political stability, policy certainty and political freedom are the political foundations of sound economic management and have an indirect bearing on the determinants of economic growth, such as inflation, investment, income inequality, human capital formation and property rights. Democracy has a positive indirect effect on growth through the predictability of the regular change of government and its positive impact on private investment, education and human capital formation (Feng 2003).

Lessons drawn from the empirical work of Feng and others suggest that developing societies will sustain growth where there is an emphasis on political stability, the enlargement of political and economic freedom, and the creation of a capable and efficient government. While there are potential trade-offs among these foundations for growth, donors are increasingly recognizing that the promotion of representative political institutions and sound administrations are part and parcel of the development puzzle. Governance and democracy promotion have an important role to play in helping developing societies build a political foundation for economic development.

However, while democracy promotion is the focus of this IRPP research project, and while human rights, democracy and governance have an equal claim to validity in the projection of Western values, it is governance that has become the master value for some, if not most, official aid agencies. There are some practical reasons for privileging governance in donor assistance policies and programs. First, regime type is sometimes a poor predictor of economic performance. In Asia, the differences between democracy and dictatorship provide little explanation for successful economic policies. The decisive ingredient of the East Asian miracle seems to have been the quality of economic governance and institutional arrangements. These included a capable, merit-based civil service; effective public-private consultation and collaboration; and, crucially, the effective implementation of policy (Root 1996). Prior to the 1997 financial meltdown, Asian nondemocracies such as Singapore and South Korea had promoted transparency and accountability in economic governance, which enabled information-sharing and consensus-building with private economic actors. By contrast, Asian democracies such as the Philippines and India have long struggled with policy implementation and poor service delivery. The function of governance to frame and implement policies appears to be related to growth and may also be linked to effective poverty reduction in those high-performing Asian economies that succeeded in balancing growth with a degree of equity to lift large numbers of people out of the poverty trap.

Good governance is appropriately emphasized in donor assistance policies because governance interventions can help countries put in place the building blocks for development, such as access to the policy-making process, transparent and predictable regulations, and access to timely economic information. Governance interventions also address the implementation gap and capacity challenges that have bedevilled service delivery in developing countries and reduced the quality of the project-based lending of some international financial institutions.

If the relationship between democracy and economic development is empirically open-ended and indirect, at best, then donors may need to consider how their democracy, rights and governance programs are justified. Instead of an “all good things go together” approach, donors could consider less lofty approaches that focus on the enabling conditions for growth and development. These include promoting accountability, transparency, and a predictable set of rules to govern economic interactions and public policy.

In the absence of a strong empirical basis on which to link democracy to rapid growth, policy-makers may need to look to values claims, to the arguments about policy interdependence associated with globalization and possibly to the security/development nexus to justify their democracy promotion efforts. These are entirely legitimate foreign policy reasons for Canada to promote what George Perlin has called “the intrinsic worth of liberal democratic values” and to project the national values embedded in the classic formula of “peace, order and good government” (Perlin 2004, 3).

The emphasis in this paper on governance does not detract from our democracy promotion efforts; it simply places that agenda within the development rubric of poverty reduction. As we have noted in the context of Asian high-performance economies, donors could support national efforts to increase the formal and informal systems of accountability and information sharing and consensus building in economic policy-making. Such an initiative could extend beyond the elite business associations or tripartite business-labour-government forums to include support for economic organizations of the poor, such as producer groups, cooperatives, the informal sector and micro-entrepreneurs.

The author thanks Rohinton Medhora of the International Development Research Centre, Leslie Seidle at the Institute for Research on Public Policy and David Emelifeonwu for comments on an earlier version of the paper.

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Dollar, David, and Paul Collier. 1998. Assessing Aid. Washington, DC: World Bank.

Doornbos, Martin. 2003. “”˜Good Governance’: The Metamorphosis of a Policy Metaphor.” Journal of International Affairs 57, no. 1: 3-18.

Feng, Yi. 2003. Democracy, Governance, and Economic Performance: Theory and Evidence. Cambridge, MA: MIT Press.

Gillies, D. 1993. Human Rights, Democracy and “Good Governance”: Stretching the World Bank’s Policy Frontiers. Montreal: International Centre for Human Rights and Democratic Development.

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Grindle, Merilee. 2002. “Good Enough Governance: Poverty Reduction and Reform in Developing Countries.” Washington, DC: World Bank.

G8. 2002. “Africa Action Plan.” Summit, June 26-27, Kananaskis, Alberta. Accessed February 17, 2005. 2002Kananaskis/afraction-en.pdf

Kurzman, C., R. Werum, and R.E. Burkhart. 2002. “Democracy’s Effect on Economic Growth: A Pooled Time-Series Analysis, 1951-1980.” Studies in Comparative International Development 37, no. 1: 3-33.

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Perlin, George, 2004. “International Assistance to Democratic Development: A Review.” Institute for Research on Public Policy Working Papers Series no. 2003-04.

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For immediate distribution – Monday, April 11, 2005

Montreal – Democracy promotion has become an important element of Canadian foreign policy and foreign aid, as expressed in recent statements by Foreign Affairs Minister Pierre Pettigrew and Minister of International Cooperation Aileen Carroll. With this increased attention, the Institute for Research on Public Policy ( released two new studies today that examine the relationship between democratic development, economic growth and peace-building.

“Democracy and Economic Development” by David Gillies

In the first study, David Gillies, who is currently on secondment from CIDA and based at Foreign Affairs Canada, surveys research on the link between democracy and growth, which is often cited by aid donors. And he underlines the quality of governance as an important influence on economic performance.

“There is no ironclad law defining the relationship between democracy and economic growth,” concludes Gillies. “The effects, where they are demonstrated, appear to be more subtle and indirect.” To illustrate this point, the author highlights democratization’s positive impact on some of the determinants of economic development, such as education, human capital formation, inflation, investment, and income inequality.

In the absence of a direct link between democracy and economic growth, the author says international donors may need to look to other kinds of claims, such as foreign policy values, to promote the intrinsic worth of liberal democratic values. Gillies suggests donors focus on the enabling conditions for growth and development such as “promoting accountability, transperancy, and a predictable set of rules to govern economic interactions and public policy.”

“Democracy and Peace-Building” by Jane Boulden

In the second study, Jane Boulden, who holds a Canada Research Chair in International Relations and Security Studies at the Royal Military College of Canada, observes how democratization has become part and parcel of post-Cold War peace agreements and post-conflict peace-building efforts carried out under the auspices of the United Nations. She argues that more attention needs to be given to the details of the connection between democratization and peace-building.

The author concludes that in assessing the role of democratization in peace-building, policy-makers should give greater attention to the balance of liberal principles with those of democratic process. This distinction matters, says Boulden, because “it forces us to ask questions about what we emphasize as founding principles and what methods to use when engaging in postconflict situations.” Democratization, often cited as a necessary and urgent component of the peace-building process, may not be the full answer in all situations. The initial phases of postconflict recovery may require greater emphasis on liberal values such as individual freedom and the rule of law.

Boulden also concludes that “individual states and the United Nations both need to develop better, more nuanced, understandings of the process of democratization and its impact on postconflict societies.” This is important to ensure that peace-building interventions are appropriately tailored to a given situation.

“Democracy and Economic Development” and “Democracy and Peace-Building” are the latest Policy Matters studies to be released as part of IRPP’s International Democratic Development series. They are now available free of charge, in Adobe (.pdf) format, on the Institute’s Web site, at


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