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Do democracies suffer higher inflation than nondemocracies? We identify two competing hypotheses regarding the impact of democracy on inflation. In the "populist" approach, inflation is the result of public demands for transfers financed by the inflation tax, suggesting that electoral competition will increase inflation. In the "state-capture" approach, inflation is a result of pressure from elites who derive private benefits from money creation, suggesting that electoral competition may constrain inflation. We present a simple model that captures both ideas and argue that the impact of democracy is conditioned by the prevailing level of income inequality. This claim is tested with data from more than 100 countries between 1960 and 1999 using different dynamic panel estimation methods to control for unobserved effects and the potential endogeneity of some independent variables. We find robust evidence that democracy is associated with lower inflation in lower-inequality countries but with higher inflation in higher-inequality countries.
Do democracies suffer from higher inflation than non-democracies? One of the long-standing debates in comparative political economy concerns the effect of regime type and regime characteristics on macroeconomic performance. The implications of democracy and dictatorship for price stability, in particular, have retained an important place in these debates at least since the inflationary crises in developing countries in the 1980s. During the transitions in the former socialist countries throughout the 1990s, these issues were revisited with renewed interest. Two decades of theoretical and empirical work, however, have yielded conflicting opinions on how political authority in different regimes determines the choice of economic policy.
Political theories of inflation that address regime effects fall into two contrasting categories: populist approaches and state-capture approaches. The first approach argues that democratically elected politicians use inflation to generate revenues in response to public demands for redistribution. In the second, incumbent politicians and their elite patrons obtain private benefits from money creation, and are themselves the cause of price instability. These approaches, consequently, lead to diverging conclusions regarding the influence of democratic institutions and procedures on inflation. In populist approaches, the institutional features of democracy-electoral competition, separation of powers, partisanship, and political participationincrease pressures on politicians to use the inflation tax; inflation is less likely if governments with consolidated, autonomous-even dictatorial-powers are able to avoid these pressures. In state-capture approaches,...