The Political Determinants of the Domestic Price Stability

Transcription

1 The Political Determinants of the Domestic Price Stability Paper prepared to present at the 22 nd IPSA World Congress, International Political Science Association, July 8 to 12, 2012 Madrid, Spain Sung-Woo Lee Department of Political Science & International Relations Korea University (woo9505@korea.ac.kr) 1

2 Abstract Who are responsible for the domestic prices? Why do people think differently about government responsibility to the domestic prices? This article suggests that the political institutions and the interest groups have made different price levels over the world. In previous economic literatures about inflation stability in developed countries, central bank independence and globalization are the most important things for domestic price stability. However, this paper argues that central bank independence could not awkward the domestic price stability. We should not only consider political institutions but also domestic interest groups included in the enterprises for domestic prices level. In this article, I confirmed that the political institutions and political players are important things for domestic price levels. 1. Introduction What are the main determinants of domestic price levels in developed Democracies? This article suggests that the political institutions and the interaction between the political players make domestic price level in democracies. Many economists (especially Monetarists) consider the problems of price level (or inflation) only as economical (or monetary) problems. And they have tried to eliminate political things (politicians interventions or election s effect to the macroeconomic indexes) in economic problems. Therefore, neo-liberal economic institutionalization Central bank independence, monetary policy rules, inflation targeting and so on has been the process of the depoliticization of monetary policies 1 over the past centuries. Over the past centuries, we have made an endeavor to spread the democratic regimes in the world, and now many countries have the democratic regimes. The democratization of the political regimes means that the rulers of the modern state have to respond to the preferences of their citizens (or voters). In a Democratic state, public decisions are made by elected representatives and implemented by appointed officials. Politicians and the government have to represent voter s interests. Representation is a relation between interests and outcomes. 1 Refer to Lohmann

3 The Democratic government could represent the interest that is collective in the sense that everyone is better off under the centralized decision than they would have been had they all pursued individual interests. People have to be coerced for their own good; the government is representative in such situations when it pursues the collective interest (Prezeworski, Stokes, and Manin 1999.). Most citizens core interests are generally economic things in developed countries. And representatives must make the economic policies based on voters interests. After all, the politicians in the modern states, depoliticized of economic institutions, have to try to response with more sensitiveness about the citizens preferences. This paper argues that the level of economic outcomes is always different from countries to countries, and that the differences are made because of the effects of political institutions and interactions between political players and interest groups. Analysis of this paper focuses on the domestic price levels, because it is the most sensitive economic index (or the economic policy outcomes) to voters. In previous economic literature about the inflation, central bank independence is the most important thing for domestic price stability (Alesina and Summers, 1993; Berger, de Haan, and Eijffinger, 2001; Cukierman, Webb, and Neyapti 1992; Grilli, Masciandaro, and Tabellini, 1991). And, the globalization as important variable suggests to inflation control (Rogoff 2003, 2004). In previous studies, there are no explanations about the variations of domestic price level in democratic countries. In globalization era, the politics, in democratic countries, made economic outcomes based on voter s interests through the economic policy even though there is the depolitization of economic policies. This paper suggests that the political institutions and the roles of political players and domestic interest groups affect the economic policy making. As a result, the economic policy making incurs the variations of the economic index levels. Therefore, we have to consider the political institutions and interest groups roles to explain the variation of domestic price level in Democracies. 3

4 Also, this paper should test the role of government about the domestic inflation control and price level. In most of the literatures, the role of government was not important to control inflation, and the government was the maker of inflation. However, we can see the role of the government to make the economic stability in many economic crises. In globalization era, the role of the government is still important to economic stability. So, we need to test the role of the government to control inflation. After all, this paper argues that the domestic price level is the result of interactions of political economic players and institutions in the process of economic policy making. The economic outcomes are the result of political process about the domestic economic issues regardless of the depoliticization of economic policies. This article studies 29 countries (Australia, Austria, Belgium, Canada, Chile, Denmark, Finland, France, Greece, Germany, Hungary, Ireland, Israel, Italy, Japan, South Korea, Luxembourg, Mexico, Netherland, New Zealand, Norway, Poland, Portugal, Spain, Sweden, Switzerland, Turkey, United Kingdom, United States) in the period between 1990 and And, Pooled OLS analysis is used. 2. Literature review 2.1 Depoliticization of monetary policy The Central Bank Independence is independence from whom? The modern monetary Institutions and regimes IMF, Globalization, Central bank independence, Inflation targeting systems, and so on are shaped to the Depolticization of monetary policy. In previous economic literatures, many economists have endeavored to explain the effects of their depoliticized economic variables and economic institutions. What is the main determinant to control the inflation? In economic literatures, we can see the central bank independence, the globalization and the Openness as main determinants to control the inflation and to sustain the price stability. 4

5 The first, traditional view defines central bank independence as formal or legal independence from government and argues that a formally independent central bank will result in lower inflation than a dependent central bank. According to the general economic explanations, the Central bank independence improves real economic performance for several reasons. First, an independent central bank that is free from political pressure behaves more predictably, promoting economic stability and reducing risk premiums in real interest rates. More specifically, an independent central bank serves to insulate the economy from political cycles either by preventing pre-election manipulation of monetary policy, as in the models of Nordhaus (1975) and Rogoff and Sibert (1988), or by reducing partisan shocks to policies following elections, as in the models of Hibbs (1987) and Alesina (1988, 1989). Second, to the extent that high inflation has adverse effects on economic performance either by creating distortions, encouraging rent seeking activity, or raising risk premiums, one would expect central bank independence to improve economic performance. On the other hand, traditional arguments for monetary policies that are politically responsive stress that politically sensitive central bankers are likely to be more concerned than independent bankers with increasing output and reducing unemployment and real interests rates. Rogoff (1985) provided a formal model of this trade-off; in his model more inflation-averse central bankers engage in less discretionary stabilization economic policy and therefore tolerate more cyclical variability in economic activity (Alesina and Summers 1993). Many economic studies (Alesina and Summers, 1993; Berger, de Haan, and Eijffinger, 2001; Cukierman, Webb, and Neyapti 1992; Grilli, Masciandaro, and Tabellini, 1991) have shown an inverse relationship between central bank independence and inflation. Second, we can consider the relation between openness and inflation. Romer (1993) argues that unanticipated monetary expansion causes real exchange rate depreciation, and since the harms of real depreciation are greater in more open economies. The benefits of surprise 5

6 inflation are a decreasing function of the degree of openness. This implies that more open economies will be lower average rates of inflation. However, Lane (1997) argues that Romer s explanation of the influence of openness on inflation is a limited one, because it applies only to countries large enough to affect the structure of international relative prices. He claims the openness-inflation relation is rather due to imperfect competition and nominal price rigidity in the non-trade sector. Lane shows that the inverse relationship between openness and inflation is strengthened when country size is held constant; that is, independent of the size of the country, openness impacts negatively on inflation, consistent with the small country explanation of the relationship advanced in his paper (Campillo and Miron. 1996). Third, another literature suggests that the important thing to control inflation is the economic fundamentals. Campillo and Miron(1996) attempted to explain the differences in inflation performance across countries. This research suggest that institutional arrangements central bank independence or exchange rate mechanisms are relatively unimportant determinants of inflation performance, while economic fundamentals openness and optimal tax consideration are relatively important determinants (Campillo and Miron 1996). Last, does globalization reduce the level of inflation? Rogoff (2004) argues that globalization may help support low inflation, even over the longer term when the developing world s integration into the global economy is no longer any surprise. In particular, globalization creates favorable milieu for maintaining low inflation by flattening the output-inflation tradeoff faced by central banks. This flattening, in turn, makes commitments to low inflation more credible and more durable. The core mechanism comes through greater competition that weakens the power of domestic monopolies and labor unions. Greater competition contributes to greater price and wage flexibility, and diminishes the output gains to be reaped from expansionary monetary policy for any given inflation impulse (Rogoff, 2006). Over the past 10 years, global inflation has dropped from 30 percent to 4 percent. Rogoff focuses on 6

7 the increased level of competition- in both product and labor markets- that have resulted from the interplay of increased globalization, deregulation, and a decreased role for governments in many economies. So, he argues that the major influence of competition on prices works through the political economy process that governs long-term inflation trends. Competitions not only tends to reduce the overall level of prices, but it also tends to make prices (and wages) more flexible. As a consequence, the real effects of unanticipated monetary policy become smaller and more transitory (Rogoff 2003). However, Ball (2006) is skeptical about the effect of the globalization. He concedes some merit to the argument that more intense international competition restricts the ability of domestic producers to raise prices when domestic output rises and production capacity becomes tighter. In economic literatures, the elements of Depoliticization of monetary policies - Central Bank Independence, Openness, globalization, and so on - are main explanation variables. There, of course, are some critics about the main explanations. Specially, Woodford (2007) remains persuaded that domestic conditions are paramount in determining inflation dynamics. Even with increased global influences, domestic monetary policy controls domestic demand, and domestic rather than international demand conditions influence domestic prices. 2.2 The Political Factors to consider In these previous literatures, there are no concerns for the roles of government and domestic politics in regards to economic policies. Inflation and price level are very important economic indexes. Also, these indexes are very important political things. Inflation is the process by which paper money loses value. This depreciation is reflected quantitatively in a rise in prices. The faster prices rise in a given country, the faster its currency loses its purchasing power on the domestic market, and through certain connecting links, on foreign market too, though here the process is complicated by the impact of other factors. If the price level in a country 7

8 doubles over a particular period, the country's currency depreciates by half (Nikitin 1984). So, Inflation and the domestic price level issues are very sensitive political issues, not just economic variables. In democratic regimes, every economic problem has the political significances. Economic problems directly affect citizens social life. So, Citizens always have their preferences about the economic problems and the economic policies of the government. Dahl (1970) said that a key characteristic of a democracy is the continuing responsiveness of the government to the preferences of its citizens. The government can represent an interest that is collective in the sense that everyone is better off under the centralized decision than they would have been had they all pursued individual interests. People have to be coerced for their own good; the government is representative in such situations when it pursues the collective interest. Representation is a relation between interests and outcomes (Prezeworski, Stokes, and Manin 1999). So, good representative governments have to make the economic outcomes for the voter s interests. If governments did not make the economic outcomes for the voter s preferences, voters call the government to account through the elections. At election time, voters will listen to promises from competing politicians, look for clues about their trustworthiness, compare, and choose accordingly. The choice would be both meaningful and consequential. Elections would thus act as a prospective mechanism for the responsiveness of politicians under perfect information, rebus sic stavtibus, politicians will adhere to the mandate. But elections would also protect citizens interests as a retrospective mechanism: voters will examine past performance and, as a result, reward or punish politicians (Maravall, 1999). In these general democratic rules, there are many conflicts between citizens and interests groups. They have many different preferences about the economic outcomes. Citizens and groups in a particular country have conflicting preferences over economic policy. Political 8

9 institutions aggregate these preferences into specific political outcomes, and these in turn induce public policy decisions in the economic domain. Public policies interact with markets and influence the prices of different goods, employment, and remunerations in different sectors of the economy, and these market outcomes feed back into policy preferences. In this view of the interaction between politics and economics, the formal rules of a country s constitutions influence political decisions over its economic policy, given some distribution of (primitive) preferences over economic outcomes in the population (Persson and Tabellini 2005). We consider the forms of government and electoral systems as the variables of political institutions. Electoral systems determine how the voters preferences are aggregated and how the powers to make decisions over economic policy are acquired by political representatives; the forms of government determine how these powers can be exercised once in office and how conflicts among elected representatives can be resolved population (Persson and Tabellini 2005). Rogowski and Kayser(2002) is that majoritarian electoral systems suppress real price levels by an increasing margin over their proportional counterparts as two parties more evenly divide the vote. Electoral competitiveness should constrain real prices more under single member district (SMD) than proportional systems. The primary concern of this paper is to identify how electoral systems and electoral competition moderate each other s effects on real price levels (Kayser 2004). And, Kayser (2004) developed three measures of electoral competitiveness and tests their effects on real prices in a panel 23 OECD countries, 1970 to He argued that Strong downward effects on real price levels emerge from one measure of electoral competitiveness under both electoral systems but effects in proportional systems exceed those under SMD. We attribute this to lower variation in real price levels among SMD countries and identify several other estimation issues. 9

10 On the other hand, I think that the business activities and interest groups as powerful interest groups have a great role in process of domestic pricing. How are interest groups able to exercise power? There appear to be at least three mechanisms. First, as we noted before, individuals have little incentive to vote or to become informed concerning the issues. Interest groups can attempt to lower the costs of voting and information, particularly for those voters who are likely to support them. They do so by making information (obviously, that supporting their own views) readily available; and they often assist directly by providing transportation, child care, and so on, on polling day. Secondly, we noted the difficulty that politicians have in obtaining information about the preferences of their constituents. There is no simple demand-revealing mechanism for public goods, as there is for private goods. Interest groups attempt to provide such information. Politicians may lack the technical information required to make informed political decisions-for example, they may not know the consequences of continued imports of cheap foreign cars or clothing. Interest groups are a primary source of information, and it is through providing information, and it is through providing information that they often exercise influence. The third mechanism is through direct and indirect bribery of the politician. Direct bribery does not occur often, at least in most jurisdictions in the United States. (Presumably, this may not be due to the purity of our politicians so much as to the costs associated with being caught.) But indirect bribery is important: special interest groups provide financial and other forms of support for politicians who support their interests; this support is viewed to be essential in running a successful political campaign (Stiglitz 2000, 179). The power of an interest group is then its ability to exert pressure. This ability varies with the size and type of a group s membership, its financial resources, monopolistic control of expertise and information, status and access to government and the media, the capacity to influence public preferences and its organizational structure (Bernhagen 2007, 25). In this 10

11 paper, interest group variables were composed of two variables business freedom and number of veto players. In real imperfect competition markets, the big business could use their power for profit maximizations. So, we need tests about the role of big business in the decisions of domestic price levels. Nikitn (1984), Marxist economist, argued the role of big businesses and the public spending in raising prices. And he argued that the policies of the big monopolistic companies play a considerable role in raising prices. Next, what is the role of the government to control inflation? In most of the literatures, the role of the government was not important to control inflation, and the government was the maker of inflation. However, we can see the role of the government to make the economic stability in many economic crises. In globalization era, the role of the government is still important to economic stability. And, we think that the role of the government has a relation with the public spending. So, we need a test about the role of the government to control inflation. Last, we could consider that partisanships are variables that affected the price levels. Political partisanships have made different economic policies for their voter s preferences. Therefore, I have the following hypotheses. Hypothesis 1: the government capacity will have effect on domestic price levels than the Central Bank Independence will have. Hypothesis 2: countries with the presidential systems will have lower price level than countries with the Parliamentary systems. Hypothesis 3: countries with the Majoritarian systems will have lower price level than countries with the PR systems. Hypothesis 4: countries with the higher ratio of business freedom will have higher price level than countries with the lower ratio of business freedom in industrial structure. 11

12 Hypothesis 5: countries with the higher number of veto players will have higher price level than countries with the lower number of veto players. 3. Data and Variables Independent Variables Form of Government In modern era, many elections had a records low voter participation rates in many Democracies. The reason is that the benefits of voting for the individual are low there is little chance of one person affecting the outcome (Stiglitz 2000, 177). However, in contemporary politics after elections, many agendas are treated and are decided without the voter s opinions in political process. These agendas are related to voter s benefits. The decisions about these agendas are decided by the bureaucracies in the governments and politicians in assembly and agencies in interest groups. This paper classified the form of government into two systems: the Presidential systems (including Assembly-elected Presidential system) and the Parliamentary systems. The forms of government are coded 1: the presidential system and 0: the parliamentary system as dummy variable. The Electoral Systems The Politician and his party wish to stay in office and he wishes to maximize his votes. And the governments are made by elected politicians and implemented by appointed officials. To maximize vote in elections, the Politicians and government have to be responsive to the signals as preferred by peoples. The responsiveness of the representatives (the Politicians and governments) can be evaluated by the policies made by the representatives. The mode of responsiveness varies in accordance with electoral systems. So, the electoral systems make 12

13 the different policies even though the political regimes have good responsiveness by the politicians and the government. This paper categorized the systems of the contemporary democracies into two types: Majoritarian system and Proportional system. The forms of government are coded 1: the majoritarian system and 0: the proportional system as dummy variable. The government capacity In the contemporary economic systems, markets play a central role in our economic life. In neo-liberal economic perspective, governments are restricted in their roles of the economic activities in the markets. There are four major reasons for the systematic failures of the government to achieve its stated objectives: the government s limited information, its limited control over private responses to its actions, its limited control over the bureaucracy, and the limitation imposed by political processes (Stiglitz 2000, 8-9). The government s capacity is made of two elements: the effectiveness and regulation power. The effectiveness of government means the capacity of bureaucracies. Effective government depends on the quality of these public servants (Stiglitz 2000, 179). And, the government s regulation power means the governing abilities to market and interest groups. Modern regulation is a complex interaction between politicians, civil servants, industry, interest groups, regulatory bodies, and occasionally consumers. To explain aspects of this, economists have developed theories of regulation, which begin with the assumption that the participants in the regulatory process are self-interested. Firms, managers, and regulators pursue their self-interest within economic, legal, and institutional opportunities and constraints they confront (Veljanovski 2010b, 89). I selected the Government Effectiveness and Regulatory Quality data from Governance Indicators of World Bank. Governance Indicators of World Bank is measured since And so, the government capacity variable (the Government 13

14 effectiveness*regulatory Quality) is made. The business Freedom Business is widely acknowledged to be the most powerful group in most modern societies. Businesses are important political actors. It touches most areas of public policy. Business could make pressures to shape policy agendas, formulation, and implementation. It may result in legislation or regulation that has substantial intended or unintended consequences for business and competitiveness. For this variable, I use the index of the business freedom since 1994 in World Bank data. This indicators score encompasses 10 components, all weighted equally based on objective data from the World Bank s Indicators. Veto Players Interest groups have a number of options they can use to influence regulation and government. They can bargain with the bureaucracy and congress, manipulate the information and publicity. For this variable, I use the indicator of the number of veto players since 1990 in Database of Political Institutions, World Bank. The remaining independent variables are included to account for factors that previous researches have linked to control inflation. First, I selected globalization around the world. And, I used the KOF Index of Globalization as globalization indicator ( ). The KOF Index of Globalization was introduced in 2002 (Dreher, 2006) and is updated and described in detail in Dreher, Gaston and Martens (2008). The overall index covers the economic, social and political dimensions of globalization. Following Clark (2000), Norris (2000) and Keohane and Nye (2000), it defines globalization to be the process of creating networks of connections among actors at multi-continental distances, mediated through a variety of flows including people, 14

15 information and ideas, capital and goods. Globalization is conceptualized as a process that erodes national boundaries, integrates national economies, cultures, technologies and governance and produces complex relations of mutual interdependence. 2 Second, Central Bank Independence is important index to evaluate the central bank s functions. This paper will use the central bank independence index by Polillo and Guillen (2005). This index reproduced Cukierman et. al (1992, 2002) s methodology to code all countries in the sample for each year between 1990 and Cukierman et al. (1992) is available by decade from the 1940s to the 80s for a sample of 70 countries. Cukierman et al. (2002) updated the index for the 1990s for a sample of 26 post-socialist countries. Cukierman s index captures directly the extent to which the central bank is independent from the political power and it is also the most widely used (Polillo and Guillen, 2005). 3 The index is a continuous score ranging between zero and one, where one indicates maximum independence. It is obtained by aggregating sixteen characteristics of central-bank charters describing four aspects: procedures concerning the governor of the central bank (appointment, dismissal and legal term of office); relationship between the government and the bank, and the location of authority over monetary policies; objectives of the central bank; and relationship between the government and the bank in terms of borrowing (Cukierman 1992). Dependent variable 2 More specifically, the three dimensions of the KOF index are defined as: economic globalization-characterized as long distance flows of goods, capital and services as well as information and perceptions that accompany market exchanges; political globalizationcharacterized by a diffusion of government policies; and social globalization- expressed as the spread of ideas, information, images and people The GMT index (Grilli, Masciandaro and Tabellini 1991), the Bade and Parkin index (Bade and Parkin 1982, in Bernhard 1998), and the Alesina and Summers index (Alesina and Summers 1993) are among the most used competing indexes. The Cukierman index presents a series of advantages over the others besides those mentioned above, such as greater sample size, clarity and time coverage (Polillo and Guillen 2005). 15

16 Conceptually, in this paper, Dependent variable is the domestic price level. The index of dependent variable is the Inflation (consumer prices) from 1990 to This variable of Inflation as measured by the consumer price index reflects the annual percentage change in the cost to the average consumer of acquiring a basket of goods and services that may be fixed or changed at specified intervals, such as yearly. Data source is the International Monetary Fund, International Financial Statistics and data files. To control effects of economic variables, I included the economic variables exchange rate, GDP growth, Unemployment (period: ). Exchange rate has strong relations with export, import and economic situations of the state. So, exchange rate has the influence on the domestic price stability. In this paper, exchange rate data is Amount of local currency per US dollar calculated by the United Nations Statistics divisions. And, there are close and positive relations between Economic growth and inflation. Economic growth has made the inflation in domestic economy. This GDP Growth (%) data is Annual percentage growth rate of GDP at market prices based on constant local currency. This data sources is World Bank national accounts data, and OECD National Accounts data files. Lastly, there is the unemployment, total (% of total labor force). This data of Unemployment refers to the share of the labor force that is without work but available for and seeking employment from World Bank Data. In empirical test, I use Pooled OLS analysis. Pooled data are characterized by having repeated observations on fixed units. Pooled data are arrayed across both cross-sectionally differentiated entities like nations and temporally differentiated ones like years. Intersections of time and space such as the nation-year serve as units of analysis in pooled data arrays. Technically, pooled arrays of data are ones that combine cross-sectional data on J spatial units (e. g., nations) and T time periods (e.g., years) to produce a data set of J T = N observations. As the distinct cross-sectional units that contribute to it, the pool is often conceptualized as a stack of temporally distinct time periods, regarded as a cross- 16

17 sectionally dominant pool, and termed a time series of cross sections (TSCS) (Hicks 1994). And, in this paper, I use the robust estimation method to estimate accurate parameter. OLS can provide poor summaries when data are not well-behaved. One practical consequence can be seen in controversies where researchers dispute the validity of finding that is strongly dependent on one or two outlying observations. So, researchers can guard against the impact of heavy-tailed distributions and the influence of outliers by using robust methods. Robust estimators also provide an effective method for diagnosing outlying observations or discrepant substructures in a dataset (Western, B. 1995). Nonrobust estimation is very likely to produce misleading results, often grossly misleading results such as seemingly significant coefficient estimates that have the wrong sign (Mebane Jr, W.R. and J.S. Sekhon. 2004). And, this analysis model can be written as = Empirical Test How have the political institutions affected the domestic price level? In general, many people think that domestic price stability is decided according to economic situations. However, as we can see in Graph 1 and Graph 2, there are some different patterns of inflation rate according to the differences of adopted political institutions between countries. In this paper, the political institutions are classified by two different systems: the form of government and the electoral system. The form of government is the power structure in nation states, and the electoral system is the ballot system for the representatives by peoples in democracies. So, two political institutions have effect on economic issues according to people s preferences. Theoretically, the effects of political institutions make an impact on the economic indicators as price level and inflation. 17

18 <Graph 1.> Inflation Rate change according to forms of government Inflation rate Inflation rate year Inflation Range of fluctuation year Inflation Range of fluctuation Presidential Systems <Graph 2.> Inflation Rate change according to electoral systems Parliamentary systems inflation rate year inflation Range of Fluctuation Inflation rate year Inflation Range of Fluctuation Majoritarian systems PR systems In graph 1, the parliamentary systems have made more changes and fluctuations of inflation rates than inflation rates in presidential systems. Presidential systems have more stable patterns of inflation rates than in parliamentary systems. In graph 2, the majoritarian systems have made more changes and fluctuations of inflation rate than changes of inflation rate in PR systems. Countries in PR systems put on more stable patterns of inflation rates like the presidential systems. In graph 1 and 2, we can see that the political institutions have some relations with the patterns of the inflation rate. We can t say that the relation between the political institutions and inflation rate is the casual mechanism. However, we can have the 18

19 analogical interpretations about their relation. It is said that people s preferences about the economic issues could materially impact the economic issues through political institutions there are some possibilities that the countries have different intensities of peoples preferences according to political institutions, and that the economic policies have made different effects to economic situations according to political institutions. We can have the analogical interpretations through the relations between two relations. Next, we could have to check the causal mechanism of the political variables about the domestic price levels. In this paper, I could test nine models to test the effects of political determinants to price level in 29 democracies. The results of nine models are summarized in table 1 and 2. Model 1 tests the effects of independent variables in 29 countries. Model 2 and 3 test countries classified by the forms of government. Model 2 tests presidential countries, and model 3 tests parliamentary countries. We can see different effects of independent variables in accordance with the forms of government. And, Model 4 and 5 test some countries classified by the electoral systems for checks different effects of independent variables according to electoral systems. Model 4 test countries have majoritarian systems as electoral systems, and model 5 test countries have PR systems. Model 6, 7, and 8 test countries are classified by partisanship of the ruling party. In model 1, significant variables are the government capacity, central bank independence, and exchange rates. And, these significant variables have inverse relations with inflation rates. In model 2, significant variables are government capacity, business freedom, and exchange rate. Government capacity and exchange rate have inverse relations too. However, business freedom has positive relations with inflation rates. In model 2, we can partially see the positive relations between the business freedom and inflation like Hypothesis 4. In parliamentary systems, government capacity and central bank independence are significant variables. We can analogize the central bank independence has the effects in parliamentary systems than in presidential systems. Overall, the regressions in Table 1 suggest that independent variables have different effects according to political institutions. And economic variables, too, have different effects according to political institutions. In table 2, model 6, 7, and 8 test the effects of independent variables classified by partisanship of the ruling party. 19

20 <Table 1.> The Effects of Independent Variables (model1 ~ model 5) model 1 model 2 (Presidential system) Government *** * capacity (-0.001) ( ) Veto players (-1.02) (-2.066) Business Freedom * ( ) ( ) Central Bank * Independence (-5.892) (-10.61) Exchange Rate ** ** (t-1) ( ) ( ) GDP Growth (t-1) (-0.452) (-0.42) Unemployment (t-1) (-0.331) Globalization (-0.139) Partisanship Electoral Systems Form Government of _cons 54.16*** (-9.066) (-0.489) (-0.281) 77.12** (-19.93) model 3 (Parliamentary system) *** ( ) (-1.032) ( ) * (-5.877) ( ) (-0.978) (-0.309) (-0.164) 66.41** (-19.76) model 4 (majoritarian system) ** ( ) (-1.682) (-0.032) (-4.554) ( ) (-0.473) ** (-0.404) (-0.122) (-14.03) N model 5 (PR system) *** ( ) (-0.976) (-0.052) (-6.897) (-0.025) (-0.838) * (-0.348) (-0.161) 81.49*** (-19.4) R-sq adj. R-sq rmse Standard errors in parentheses * p<0.05, ** p<0.01, *** p<0.001 In left partisanship, the only significant variable is the government capacity. And, the most interesting part is model 7. In center partisanship, government capacity, veto players, business freedom, and central bank independence have positive effect to inflation rate. Model 7 suggests that center partisanship makes it possible for the activities of interest groups to the price level. Center partisanship means the weaker partisanship than in left and right partisanship. So, the effect of partisanship to economic policies is weaker than in left and right partisanship. The result is that the influence of the domestic interest groups has increased to price level and inflation rate. According to partisanship of the ruling party, the effects of independent variables make a different effect to price levels. 20

21 <Table 2.> The Effects of Independent Variables (model 6 ~ model 9) model 6 (Partisanship Left) model 7 ( Partisanship model 8 (Partisanship model 9 (Total) Center) Right) Government capacity ** ( ) * ( ) *** ( ) *** ( ) Veto players (-1.137) 30.98* (-0.497) (-1.185) (-1.016) Business Freedom ( ) * (-62.88) (-0.065) ( ) Central Bank * * Independence (-4.818) (-2.648) (-7.812) (-5.362) Exchange Rate (t-1) ( ) * ( ) ** (-0.078) * ( ) Growth (t-1) (-0.615) * (-0.218) 3.356** (-1.134) (-0.765) Unemployment (t-1) (-0.259) ** (-0.021) (-0.619) (-0.273) Globalization (-0.141) * ( ) (-0.148) (-0.146) Partisanship (-1.354) Electoral Systems ** (-2.787) Form of Government (-4.113) _cons 29.36** (-10.45) * (-45.98) 103.9*** (-19.36) 68.56*** (-19.56) N R-sq adj.r-sq rmse Standard errors in parentheses * p<0.05, ** p<0.01, *** p<0.001 Model 9 tests the effect of total independent variables (included partisanship, electoral systems, form of governments as independent variables, not the conditions) to inflation rate. In model 9, we can see the significant effects of government capacity, central bank independence, exchange rate, and electoral systems. Overall, the most significant variable is the government capacity. Also, the most political determinant of domestic price level is the government capacity. The government capacity is the more important variable to domestic price level than the central bank independence, globalization as important variables in economics to explain the price level. If the partisanship, forms of government, electoral systems make effects to price level as institutional conditions, we can see some diverse effects of independent variables according to the political conditions. 21

22 5. Conclusion Many economists (especially Monetarists) consider the problem of price level (or inflation) only as economical (or monetary) problem. And they have tried to eliminate the political things (politicians interventions or election s effect to the macroeconomic indexes) in economic problems. However, empirical analyses of this paper suggest that the Political institutions and the interest groups still have made the different domestic price levels in democracies. And, empirical analyses suggest that the government capacity is the most significant variable to affect the price level in democracies, and the political institutions and conditions the forms of government, electoral systems, and the partisanship of ruling party have made some different effects of independent variables. This means that the domestic price level in democracies is the result of interactions of political institutions and political actors. The countries, established by the democratic institution and conditions, have made the political effects to price levels even though democracies adopted the depoliticization of monetary policies, because democratic countries have to response to peoples preferences about the national economic situations. Appendix 1. Descriptive Statistics of Variables Variable Obs Mean Std. Dev. Min Max Government Capacity Business Freedom Veto Players Electoral system Form of Government Exchange rate GDP growth unemployment Globalization Central bank independence Inflation <Reference> Alesina, Alberto Macroeconomics and Politics. In NBER Macroeconomis Annual, 22

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