Political cycles in a small open economy and the effect of economic integration: evidence from Cyprus

Efthyvoulou, Georgios (2008) Political cycles in a small open economy and the effect of economic integration: evidence from Cyprus. Working Paper. Birkbeck College, University of London, London, UK.

Abstract

This paper examines whether partisan politics and opportunistic government behavior generate political cycles in a small open economy, and, if so, whether such effects survive under increased economic integration. We discuss evidence drawn from Cyprus for the period 1978-2006. The empirical analysis extends the work of Alesina et al. (1997) to accommodate the special features of the Cypriot economy in a controlled environment era and follows a more technical econometric approach to ensure that our estimations will not draw misleading inferences. The results are in line with the rational partisan model and are similar to the ones obtained for other countries. On the other hand, the findings for Cyprus support also the existence of an electoral cycle in fiscal policy and reject the one in monetary policy. We argue that the unique politico-economic profile of a country is crucial for the empirical success of different theories. Furthermore, we find that the reported effects do not persist in the run-up to EU accession and ERM II participation. The implementation of several structural reforms and the Maastricht criteria seem to affect governments' ability to influence the domestic economy.

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