Fear Factor: How Political Insecurity Shapes the Diffusion of Financial Market Deregulation

Nearly 30 years after "financial repression" was flagged as a major problem in developing countries, nearly all nations have at least partially liberalized their financial systems. Explanations for this spread of financial market deregulation have emphasized either "top down" mechanisms (globalization, pressure from IOs and the U.S.) or "bottom up" mechanisms focusing on domestic coalitions (derived from configurations of economic interests). In contrast to these broadly structural approaches that de-emphasize the choices of agents, this paper focuses on the micro-foundations of diffusion by emphasizing the incentives facing office-seeking leaders. I argue that politically insecure leaders are potent agents of diffusion because they are particularly likely to "learn" the lessons of financial market reform and emulate the liberalizing practices of others for two reasons. First, the hefty economic boom often associated with financial liberalization provides a tempting way to attempt to buttress their near- to medium-term grip on power. As they observe other nations in their region experiencing a boom, leaders fearful of losing office will be quick to learn the lesson and particularly eager to jump on the liberalization bandwagon, accelerating regional deregulation cascades. Second, insecure governments may be particularly susceptible to pressure from international organizations: they have motivated biases both to believe the efficiency claims of liberalizers and strong reasons to seek the "seal of approval" for their policies. Either way, politically insecure leaders will be quick learners about the benefits of liberalization. To assess these arguments, I estimate hazard models of political survival to generate a proxy for political insecurity. With this proxy for insecurity in hand, time-series cross-sectional logit models of the timing of reforms are estimated. The argument implies that while politically insecure leaders may speed diffusion, their depth of commitment will be shallow, and that reforms motivated partly by fear of losing office will be more likely to unravel than those taken out of deeper conviction.

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Working or Discussion Paper
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CRC Working Paper 59/2004

 Record created 2017-04-01, last modified 2017-04-04

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