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Webinar Q&A | The Effect of Institutional Quality on Economic Growth

Webinar Q&A | The Effect of Institutional Quality on Economic Growth

by | Apr 27, 2021

We had an insightful Webinar with the participation of Aman Ullah and Ivan Taylor who presented us with a macroeconomic framework that identifies the structure of institutional quality in developing countries and their linkages to economic growth and income distribution

If you’re a member, you can watch the webinar recording here and download the presentation here

Here are the answers to questions asked live during the Webinar.

Learn more about the Seminar Series.

Q&A Seminar | The Effect of Institutional Quality on Economic Growth

Answers by Aman Ullah and Ivan Taylor

1. Can you provide more insight into the feedback loops that were responsible for the differences across the different countries?  What were the primary factors creating the differences?

The institutions that directly impact economic growth are control of income inequality, economic openness, government expenditure, private investment, foreign direct investment. The feedback loops that contain these institutions have the most impact.


2. Are there similarities between the feedback loops in the different countries? Do they have pivotal factors in common which are responsible for the behavior of your simulations?

All of the feedbacks in the results are the same for all the countries. The difference from country to country depends on the projected trends in the future quality of the institutions.


3. What “insights” came from this model that you didn’t have before you started?

We were surprised by the economic growth projected for Pakistan compared to the decline in economic growth in the other countries. We need to do more research into why this occurred.


4. I’m interested in hearing more about how you translated the model from Vensim to Excel.

We used the Euler integration function (default) to solve the differential equations in Vensim. And Euler integration can be translated into equations in the cells of Excel with each stock, flow, and auxiliary as a separate column in the spreadsheet. And in each row, the cells (stocks, flows, and auxiliaries) are updated for each step through time.


5. Why specific countries were only modeled – Iran, Greece, S Africa, and Pakistan – what is common in them, and 2)  is there a  country comparison available?

We wanted to select one country from each continent and secondly, we wanted to show that the model applied to countries with different levels of development. Also, we were particularly interested in countries facing different economic growth challenges.


6. There seems to be some dynamics in the datasets that are not being captured by the model; are there justifications for observing such behavior? Specifically, it would be great to see natural experiments between countries which show different levels of variations around the simulated values.

1) The calibration of the model tries to draw a smooth line through the highly discontinuous datasets based on minimizing the total squared error. So the lines for some institutions will be a better match to the data than others. It may be worthwhile considering the addition of a few more variables.

2) Yes, we would be very open to the use of natural experiments. For example, many countries have attempted to increase their economic growth using various policies. It would be interesting to examine the results of these policies in natural experiments. This would be very useful to better understand the changes seen in the datasets for individual countries.


7. The model doesn’t seem to have any way to incorporate things like the 2008-9 financial crisis,  Covid-19 ( in 2020 #’s), etc. These different years don’t actually seem comparable, as   impact as a function of effort would vary widely based on these other factors

We used the data from 1996 to 2019. So the data from the financial crisis was included. However, some countries were more affected by the financial crisis than others. The model did not consider a shock to the system such as the 2008-9 financial crisis but in general System Dynamics can do that and often considers such shocks.


8. What are the units of Policy Effort?

This work is a proof of concept at this time. So we used dimensionless units for policy effort. However, we recognize that policy implementation can be costly and will vary from institution to institution. So in the future, we would like to examine policy effort in terms of cost and effectiveness with the appropriate sensitivity analysis.


9. Can you please explain the rationale for introducing inflation as an affecting factor for corruption?

Based on econometric theory and results, there appears to be a strong cause-and-effect relationship between inflation and corruption in the literature. Practically, when there is increasing inflation (such as in Argentina and Turkey), there is a great loss in wealth and people may respond through corrupt behaviors to compensate.


10. How did you quantify the effect of the amount of effort on institutional change (e.g. change in corruption)?

When we change the effort, this affects the target level in the goal-gap formula of institutional change. So more effort is expended to achieve a higher target and the model responds by closing the gap between the target and the actual value over time


11. Is there any sensitivity analysis?

We did scenario analysis but not sensitivity analysis. Sensitivity analysis can be done quite easily in the model and it should be done in the future. We should have included a sensitivity analysis in the presentation.


12. On the System Dynamics model overview why were the loops not labeled?

They should have been labeled. Because we converted all of the values so that higher values were better, all of the loops were reinforcing loops and the differences in behavior occurred because the results of the reinforcing loops could lead to either exponential growth or exponential decline. And that demonstrates the importance of actually building a simulation model


13. Is there an underlying assumption in the scenario analyses that increasing economic growth is a good thing?

Because all of the institutions are connected by reinforcing loops, that increasing economic growth will lead to increasing institutional quality and vice versa. We believe that increasing institutional quality is a good thing


14. If increased government revenue comes from taxation, might there be a reduction in private investment and therefore economic growth!

Yes, the connection between government revenue and private investment needs to be looked at in more detail. This will be future work.


15. Does the model take into account the goals of the institutions for the quality of them?

Yes, because all of the loops are reinforcing then the goals of the institutions are always to improve quality.


16. Is there a country comparison available?

Yes, a country comparison is available but wasn’t included as part of the presentation. You can contact us to find out more.


17. Is this model being used practically at the moment?

Yes and no, this model is informing a member of the Planning and Development Board of Pakistan. However, the model has not been peer-reviewed. So there needs to be some caution in the interpretation and application of the results at this time. However, similar models have been developed and utilized by the World Bank and International Monetary Fund but not specifically System Dynamics models.


18. Does the model/data offer any insight into why Pakistan was the only country that experiencing economic growth?

Yes, the model provides insights into all of the country analysis. In particular, the reinforcing loops in Pakistan result in growth while the reinforcing loops in the other countries are suggesting a decline. More work is necessary to examine these trends in more detail and determine if corrective action can be taken in the countries where decline is projected.


19. Can you provide any insight into the relative leverage that one can get from the various policy options?

Yes, the institutions with closer connections to economic growth will have more impact on it. However, some of these will be synergistic and some will limit growth. So in fact, the leverage points are country-specific.


20. Can the model be applied in the “developed” world?

Yes, we have applied the model to the United States and Canada and it provided useful insights. We believe that model can be applied to any country in the world if there is data to support the calibration.


21. Do you have any insight into how quickly a change in one institution in your model impacts the economic growth rate? That is, what are the delay factors in the model?

Yes, the change in institutional quality requires time and the times are calibrated in the model for all of the institutions separately. So some institutions will change faster and some will be delayed. Again, these times to change are country-specific.


22. Would the question of HOW institutions can be improved to drive economic growth be outside the scope of the study?

At present, we haven’t looked at policy implementation. However, our work on policy optimization would require an estimation of the cost and benefits of policy options.


23. Did you do one of these for the US?

Yes, please contact us for more information in the case of the US or any other country.


24. Did you find that specific institutions tended to be more influential in pushing outcomes? Is this true across all cases?

Yes, income inequality, economic openness, government expenditure, private investment, and foreign direct investment had the most impact. Although this is true for all cases, the amount of impact varies from country to country.


25. Can we see the specific parameters that affect the growth in Pakistan?

Yes, please contact us and we will share these results.


26. Did you do runs that show your confidence limits for the predicted values  ( based on how good or bad the fit to the time-series of actual data was)?

No, we only tried to minimize the total sum of squared error for all of the institutions. However, it is possible to develop confidence intervals on the parameters and thereby, confidence intervals on the projections. This can be included in future work.


27. I didn’t see a graph of  EFFORT put in versus IMPACT, with confidence limits on it.  Where does the $$$ for “effort” come from and how much damage does taking that $$ away from other uses show up in the model?
We assume that a certain amount of effort is being expended on all of the institutions at present. And we are only considering extra effort over and above the effort expended in the status quo situation. So the institutional quality will only increase with extra effort. We are not taking money away from the other institutions in our optimization we are only adding effort. This is idealistic but useful. Of course, the model could consider tradeoffs between effort in institutional quality where some effort is reduced in some areas and allocated to other areas.

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