Transaction Costs and Economic Growth Under Common Legal System: State-level Evidence from Mexico

Mitja Kovac (University of Ljubljana Faculty of Economics)
Rok Spruk (University of Ljubljana faculty of Economics)

Abstract: This paper examines the contribution of administrative and procedural transaction costs to economic growth under common legal system. We show that administrative and procedural costs vary quite a lot even within the institutional environment sharing the common legal system. States with low-cost business registration, low-cost access to property rights and greater judicial efficiency tend to have consistently higher growth. The established effects are robust to alternative model specifications, heterogeneity bias, and to a variety of control variables that might confound the effects of transaction costs on growth. Such differences in transaction costs are far from being trivial as we show that these within-system differences might be instrumental in influencing economic growth. Lower transaction costs induce growth by increasing investment rate, lowering unemployment rate, encouraging labor supply and improving TFP. In the counterfactual scenario, the transition from high-cost to low-cost regime is associated with substantial growth and development gains over time. By exploiting the variation in historical presence of US troops in 1848, disease environment, ethnic fractionalization and historical urbanization, we show that the negative effect of rising transaction costs on growth and development appears to be causal.

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