How much is democracy worth?

In recent years, democracy seems to have got some scratches in previously shiny armour. Autocrats and wannabe dictators have gained popularity all over Europe and the United States and sometimes it seems that democracy is broken in many Western countries. At the same time, with all its flaws the decidedly undemocratic country of China seems – at least economically – in the ascendancy.

A lot is said about the political benefits of democracy, but this is not a post about politics. It is one about economics. I simply want to look at the evidence, or lack thereof, if democracy is good for a country’s economy and its people’s wealth.

The key study that kicked off a renewed interest in the link between democracy and GDP or wealth was published in 2019 by Daren Acemoglu and his colleagues. They found that a permanent shift from autocracy to democracy increased GDP per capita in the country by 31%. The average increase in GDP per capita from a shift to democracy is 20% simply because many democracies in the developing world return to autocracy and dictatorships after a while.

A new study by Markus Eberhardt from the University of Nottingham looked a bit deeper into this phenomenon and tried to figure out how diverse the results of democratisation are. Crucially, he controlled for both trade openness of a country and gross investment as a share of GDP. Both of these variables clearly have a significant influence on a country’s economic growth, yet as that example of China shows, a country can be undemocratic and at the same time prosperous due to large foreign direct investments and participation in global trade. With these effects taken into account the benefit of democratisation is smaller, but still substantial at some 12% of GDP per capita. The range of the benefits can vary substantially with the bottom quartile of all countries witnessing a drop in GDP per capita in the order of 6.5% while the top quartile experiences an increase in GDP per capita of 30% or more.

And this is why it is politically so difficult to argue for democratisation. Democracy isn’t a sure thing. One can always find examples of democratisations that went wrong and made people poorer, and one can always find examples of democratisations that are runaway successes. The former is exemplified by Iraq after the US invasion in 2003, the latter by the end of the autocratic regimes in South Korea and Taiwan.

But overall, the evidence is clearly pointing in the direction that democratisation leads to increased wealth, while a reversal of democracies or a slide into less democratic or autocratic systems is making people worse off.

And this is why so many autocracies ultimately fail. Many autocrats come to power via democratic elections. Once in power, these people then undermine democracy and effectively abolish democratic institutions. Almost always, they do that within the system, using small steps to undermine one institution after another. Sometimes, a major emergency or catastrophe comes along that allows these democratically elected regimes to rule by decree in order to deal with the emergency. Only once the emergency is over, the emergency measures are never repealed.

In any of these cases, economic activity is gradually declining. A combination of fear about doing or saying the wrong thing and an exodus of highly skilled people to countries abroad slowly undermines productivity and GDP growth. It almost never is an immediate decline in living standards. It’s a slow drift to the bottom. Always lagging other more democratic countries by a little bit until, some ten or twenty years later, the difference in living standards has become significant. Like cancer, undermining democracy, in the beginning, is hardly noticeable. But if left untreated, it leads to increased poverty and potential ruin.