Institutional quality and income distribution

Institutions, as the implicit and explicit rules by which the members of a society interact, shape the economic behavior of agents and help explain the economic performance of countries. When these rules change constantly or are not respected, when the discretion of the government is unlimited, when property rights are not well secured, or when corruption is high and rule enforcement is weak, there is likely to be a problem with the quality of the institutions, since the delivery of services, the allocation of resources, and fair judgment will be less than desirable and the actual achievements will be less than the purported aim. Problems related to institutional quality may translate into an increased degree of uncertainty that sends mixed signals to the market, thus affecting the productive process. Not only is the institutional framework linked with economic performance, but it can also be linked with how a society's gains are distributed among its members, that is, with the distribution of income. In this article, we present cross-country evidence on the link between the quality of institutions and income inequality over a long period of time. The key question is, does institutional quality matter for income distribution? To the best of our knowledge, this is the first systematic empirical research that explores this link. We use two sets of institutional quality measures from two different private services, the International Country Risk Guide (ICRG) and the Business Environmental Risk Intelligence (BERI). These data sets contain measures on corruption, bureaucratic delays, risk of expropriation, rule of law, and other matters that we believe account well for the institutional quality in a society. The article is organized as follows. In Section II, we describe the data and provide some emphasis on regional differences. Section III presents some basic correlations. In Section IV, we show the econometric results for the different institutional quality measures, using both Gini coefficients and income shares. Section V presents robustness tests. The conclusion is in Section VI.