Trade openness, governance quality, and economic growth in Latin America and the Caribbean

Abstract

The existing literature on the relationship between trade openness and economic growth is extensive, but there is a dearth of research that examines whether this relationship is contingent on the quality of governance institutions in a country. In this study, we address this gap by investigating the moderating effects of governance quality on the trade openness-economic growth nexus in Latin America and the Caribbean (LAC) during the 2000–2021 period. We utilize six indicators of governance quality from the World Bank's world governance indicators and employ correlation and the dynamic panel System Generalized Method of Moments technique for robust and efficient analysis, which yields more accurate results when the number of cross-sections exceeds the time dimension of the dataset. Our findings indicate that governance effectiveness, rule of law, control of corruption, and regulatory quality have a significantly positive impact on the positive relationship between trade openness and economic growth. In contrast, the moderating effects of voice and accountability and political stability on the trade openness-economic growth relationship are negative and statistically significant. Based on these results, we conclude that each governance dimension has distinct effects on the trade openness-economic growth nexus. In term of policy recommendation, policymakers need to harness the benefits of international trade for promoting economic growth; therefore, LAC countries should focus on investing in institutional quality and designing policies that would enhance the overall quality and effectiveness of governance.