Corruption, interest rates and business cycles: comparison of emerging economies

We examine the hypothesis that corruption in a country negatively influences the macroeconomy through an increase in the country-specific interest rate (interest rate shock). An empirical study estimated the contribution of the interest rate shocks to the variance in output growth at 5.1% in Mexico within the framework of stochastic growth models for small open economies. We replicate this study with the same dataset and investigate which parameters affect the contribution of the interest rate shocks to business cycles. Then, we estimate the same model for different emerging economies to investigate the relationship between the corruption level and macroeconomic contribution of the interest rate shocks. For this purpose, we use Transparency International’s Corruption Perceptions Index (CPI) to measure the corruption level. Finally, we investigate the correlation between the CPI and the estimated series of the interest rate shock. Our findings are as follows. First, the average size of the interest rate shocks is positively associated with the contribution of these shocks to the variability of output growth. Second, the average size of the interest rate shocks is also positively associated with the corruption level. Third, the estimated interest rate shock and the corruption level are positively correlated with each other. As we treat the corruption level as an exogenous variable in the model, these findings lead us to accept the hypothesis. The “Appendix” further clarifies a well-known hypothesis that the cycle is the trend in an emerging economy.