The macroeconomic factors and political environment: Analysis of balance of payments, foreign exchange reserves and economic growth

Abstract

This is a global study comprising three analyses of macroeconomic dynamics in world economies, focusing on key areas that influence the macroeconomic cycle and financial stability, taking into account institutional and governance factors.

The first study examines the policy impact of tariffs, interest rates, and political stability on the balance of payments among three income groups classified by the World Bank. The global panel data, sourced from the World Bank, covers the period from 2002 to 2022 and is divided into three groups based on per capita income: High Income, Upper Middle Income, and Lower Middle-Income countries. This study investigates how these variables influence the balance of payments across different economic conditions and whether their effects vary. The analysis employs Panel Least Squares, Fixed Effects Regression, GMM, and Dumitrescu panel Granger causality tests. The findings confirm that these variables exert different impacts in the selected groups, highlighting that the importance of tariffs and interest rates as policy tools cannot be overlooked. This research contributes to a deeper understanding of the complex relationship between macroeconomic variables within each income group and underscores the significance of political stability for economic outlook.

The second study investigates the influence of various macroeconomic variables and governance quality on foreign exchange reserve accumulation across high-income, upper middle-income, and lower middle-income countries from 2002 to 2023. A governance quality index is created using Principal Component Analysis (PCA) from six governance indicators from the World Governance Indicators. The data is divided into different sub-periods to explore effects during various economic phases such as the global financial crisis (2002-2008), the recovery period (2009-2019), and the COVID-19 pandemic (2020-2023). Panel data regression models (POLS, fixed effects, and random effects) and a Panel Vector Auto-Regression (PVAR) model are employed to examine the effects of these variables and analyse shocks in the reserves. The findings reveal diverse results across income groups and time periods. For high-income countries (HICs), governance quality and institutional stability emerge as key drivers of economic resilience, especially following crises. Upper middle-income countries (UMICs) show a strong link between governance quality, inflation stabilisation, and monetary credit effectiveness, whereas lower middle-income countries (LMICs) are more vulnerable to external shocks, particularly through exchange rate volatility and external debt burdens. The overall analysis also highlights the significance of the digitisation era as a major contributor to reserve accumulation across all income groups and opens numerous avenues for future research. The PVAR analysis further supports these conclusions, indicating that governance quality has a substantial impact on macroeconomic variables across all income groups.

The third study analyses top remittance-receiving lower middle-income countries, divided into two groups based on their level of democracy. The aim is to examine the differential impact of remittance, the democracy index, their interaction, and the militarisation index on economic growth. The study employs Panel Regression (POLS), Fixed Effects (FE), and Random Effects (RE). To ensure the robustness of the results, an additional analysis using Two Stage Least Squares (2SLS) is also conducted. The results reveal a negative relationship between both democracy and remittances with growth in countries with stable democracies, whereas a positive relationship is observed in countries with less democratic institutions. The study also introduces a novel variable, the Gross Militarisation Index (GMI), and applies slope homogeneity and cointegration tests, which also yield favourable results. These outcomes highlight the importance of political context in modelling the economic impact of remittances and democratic institutions. The research recommends that tailored policy frameworks be implemented in each nation’s institutional structure, focusing on effectiveness to promote inclusive and sustainable development.