Shock and awe? Fiscal consequences of terrorism

Abstract

This article investigates how the frequency and severity of terrorism affect government finances in a large sample of 156 developed and developing countries over the period 1970–2016. The empirical results indicate that terrorism has a negative effect on tax revenue performance, especially in countries where terrorism has become endemic with frequent attacks and large numbers of fatalities relative to population, and that this effect becomes more pronounced in dynamic models accounting for potential endogeneity. Similarly, controlling for a plethora of economic, demographic and institutional factors, we find compelling evidence that terrorism is associated with a significant increase in military spending as a share of national income. These effects of terrorism on government operations and finance appear to be greater in countries where attacks are frequent and result in large numbers of fatalities. Our empirical findings also confirm that the state of public finances in developing countries is more vulnerable to acts of terrorism than those in countries that are richer and more diversified.