How the Quality of Institutions Affects Technological Deepening in Developing Countries

* I would like to thank Philip Keefer for the institutional data. Responsibility for all errors, omissions, and opinions rests solely with the author. All findings, interpretations, and conclusions expressed in this paper are entirely those of the author and do not necessarily represent the views of the World Bank, its Executive Directors, or the countries they represent. This paper assesses the effect of institutional quality on R&D expenditures in developing countries. The paper finds that the risk of expropriation and the rule of law are correlated with R&D expenditures. Since both institutional variables increase as institutional quality improves (i.e., as risk of expropriation decreases and rule of law improves), this suggests that stronger institutions encourage greater R&D expenditures. The result for the risk of expropriation is more highly significant and far more robust than the result for the 'rule of law'. Although R&D is not the primary way that developing countries gain access to technology, this result is interesting for at least two reasons. First, R&D might encourage technological deepening better than other methods that developing countries use to gain access to technology (e.g., through FDI or capital goods imports). Second, past work has shown that another important way that developing countries gain access to technology, through FDI, is also positively correlated with institutional quality (i.e., as institutional quality improves, FDI increases).