Comparative Study of the Efficiency and Compensatory Effect of the Economic Openness on Government size in OIC Members

Abstract

Globalization and economic openness, by raising external risks, increase the presence and interference of governments to support domestic economy. However, by integrating markets and creating competition in private sector, globalization decreases the presence of government in the economy. In this paper, under the theoretical framework of compensatory and efficiency hypotheses, the relationship between government size and economic openness in the long- and short-term is investigated for select member countries of Organization of Islamic Cooperation for period 1998-2015. The designed model is estimated by using vector autoregressive (VAR) and the two-stage least squares (2SLS) methods. The results of vector error correction model (VECM) estimation show that in short run, government size, population and financial openness influence government size. In the long run, urbanization and population variables have the greatest impact on government size. The effect of financial openness on government size in the long run is decreasing, but the effect of the trade openness is increasing. The results of 2SLS estimation also show that the effect of efficiency hypothesis on the size of the government cannot outweight the incremental effect of the compensatory hypothesis and, as a result, with increasing economic openness in these countries, government size has become larger.

Keywords

• trade openness
• financial openness
• government size
• compensatory and efficiency hypotheses