## _wp1369

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### III. Main Findings — Output, Labor, and Recovery
- Sample: 11 political instability (PI) episodes (Libya treated as an outlier and excluded from aggregate analysis).
- Real GDP and output gap:
  - Statistically significant fall in real GDP in the event year, with output declines ranging mostly between 1 and 7 percent.
  - Output gaps turned negative in the event year and continued to widen for some time.
  - On average, output remained below potential for 4 years after the initial drop; recovery took around 5 years.
- Unemployment:
  - Unemployment rose in all sample countries by about 1–1½ percentage points on average during the first two years after the start of political unrest.
  - Unemployment took between 4 to 5 years to return to pre-crisis levels. (Unemployment data available for only six countries in the sample.)
- ACTs experience (Egypt, Jordan, Libya, Morocco, Tunisia, and Yemen):
  - Egypt, Tunisia, and Yemen experienced significant declines in real GDP in 2011; Jordan and Morocco saw growth dip below long-term trend.
  - Actual output below potential and unemployment increased from already high levels.
  - Additional drags on recovery include a weak global economy, fiscal vulnerabilities in the ACTs, and regional spillovers from Syria.

### III. Main Findings — Consumption and Investment
- Past PI episodes:
  - Private consumption declined slightly on average during the event year; public consumption remained steady (constant prices).
  - Public and private investment declines ranged approximately between 10 and 40 percent during the event year.
  - Public investment did not recover to pre-crisis levels (in percent of GDP) for at least 5 years after the event; private investment also took 5 years to return to pre-crisis levels.
- ACTs:
  - Private and public consumption relatively resilient, especially in Jordan and Morocco.
  - Public investment declined by over 10 percent on average, with large declines in Egypt and Yemen.
  - Private investment decline somewhat subdued following a large decline in 2009.

### III. Main Findings — Fiscal Positions and Debt
- Past PI episodes:
  - Overall fiscal balances deteriorated by about 1 percent of GDP on average during the event year, and continued to deteriorate in the subsequent two years by a cumulative 1¾ percent of GDP.
  - Revenues recovered slowly, reaching pre-crisis levels (in percent of GDP) four years after the event; government expenditures remained high for two years after the event.
  - Fiscal deficits returned to pre-crisis levels only in year T+4 (where T is event year).
  - Fiscal deterioration and GDP decline adversely affected government debt (in percent of GDP). (Relevant fiscal data available for 8 of the 11 countries in the sample.)
- ACTs:
  - Entered PI with higher overall fiscal deficits than previous PI episodes due to appreciably higher government expenditures (in percent of GDP), despite somewhat higher revenues.
  - Deterioration in ACT fiscal positions significantly larger during 2011-12.
  - Overall fiscal deficit expected to have increased (relative to 2010) by about 2½ percent of GDP in 2011-12 due to declining revenues and increased public expenditures (especially untargeted food and energy subsidies).
  - Government debt has risen.
  - Countercyclical fiscal stance in 2011-12 helped mitigate downturn, but limited fiscal space implies a need for large fiscal consolidation to restore debt sustainability; mobilization of external financing could smooth the adjustment.

### III. Main Findings — External Balances, Reserves, and Financial Flows
- Past PI episodes:
  - Ten of the 11 sample countries entered PI with large current account deficits, which deteriorated further in the event year.
  - Five years after the event, current account balances improved considerably in seven countries and worsened in 4 of the 11 countries.
  - Investor confidence fell, leading to a sharp fall in inward foreign direct investment; official external assistance pickup was delayed.
  - Declines in reserves were common; reserves returned to pre-crisis levels about four years after the crisis.
- ACTs:
  - External current account deficits widened in the five years prior to 2011 and increased further in 2011-12 by around 2 percent of GDP.
  - FDI and other financial inflows have fallen; gross official reserves have declined sharply.
  - Aggregate decline in gross official international reserves by end-2012 projected to reach nearly 40 percent of the end-2010 level of reserves.

### III. Main Findings — Exchange Rates and Inflation
- Past PI episodes:
  - Countries with manageable external vulnerabilities (Côte d’Ivoire, Honduras, Madagascar, Paraguay, South Africa, and Togo) experienced little or no increase in currency depreciation in years T and T+1; inflation in years T and T+1 was lower or in line with prior two years.
  - Countries with high external vulnerabilities (Albania, Argentina, Korea, Myanmar, Philippines) faced significant reserve pressures and allowed large currency depreciations.
  - In Albania, Korea, and Myanmar, average annual nominal currency depreciation ranged between 12 and 18 percent in years T and T+1; passthrough contributed to higher average inflation between 7 and 17 percent.
  - In Argentina and the Philippines, inflation rose less than nominal depreciation; real effective exchange rate (REER) depreciated by about 50 percent in Argentina and 15 percent in the Philippines.
  - For the full sample, REER broadly stable or appreciated around the event but improved competitiveness occurred more clearly after year T+2.
- ACTs:
  - Policymakers limited exchange rate movements in 2011–12; inflation remained generally benign.
  - In early 2013, Egypt allowed greater exchange rate flexibility as international reserves continued to fall, with potential for inflation to increase.
  - Going forward, ACT policymakers are considering greater exchange rate flexibility and a richer monetary policy tool kit to address external vulnerabilities and strengthen competitiveness.

### IV. Conclusions — Aggregate Lessons from PI Episodes
- Typical outcomes of severe social unrest:
  - Sizeable output losses; sluggish recoveries with output gaps persisting about 5 years.
  - Rising unemployment for several years after event onset.
  - Lower investment—public and private—with slow recovery (typically about 5 years).
  - Deteriorating fiscal positions and rising government debt; fiscal deficits often return to pre-crisis levels only by year T+4.
  - Declining international reserves with slow recovery (about four years); mixed outcomes for current account balances across cases.
  - High external vulnerabilities can lead to large currency depreciation and higher inflation.
- ACTs outlook:
  - Display many trends seen in past PI episodes: output decline in 2011 in Egypt, Tunisia, Yemen; continued low economic activity in 2012; unemployment increases; widened fiscal deficits; deteriorated external current account deficits; declined international reserves; muted inflation due to weak demand.
  - Medium-term recovery complicated by weak external demand (especially from European trading partners), high food and fuel prices, and need for sizable fiscal consolidation given weak initial fiscal positions.
  - Recovery in ACTs could be delayed more than in past PI episodes; pressures on fiscal and external stability likely to be more intense.

### IV. Policy Recommendations
- Implement a growth-friendly fiscal adjustment to:
  - Reduce generalized subsidies,
  - Bolster investment,
  - Strengthen targeted social safety nets.
- Mobilize international financing to facilitate a gradual fiscal adjustment.
- Increase exchange rate flexibility to improve external shock absorption and competitiveness.
- Implement institutional and regulatory reforms to raise potential growth and create greater and more equal access to economic and employment opportunities.
- Deliver higher standards of living through policy reforms to reduce the likelihood of recurrence of political instability.

### Data Appendix — Countries and Series
- Countries (11) included in this study are Albania, Argentina, Côte d’Ivoire, Honduras, Korea, Madagascar, Myanmar, Paraguay, Philippines, South Africa, and Togo.
- Primary data sources and series definitions:
  - Real GDP — GDP in constant prices (IMF’s World Economic Outlook database).
  - Unemployment rate — Unemployment rate (in percent).
  - Inflation — CPI, period average (percent change).
  - Current Account balance — Current account balance, in percent of GDP.
  - Fiscal balance — World Economic Outlook + Datastream; General government overall fiscal balance, in percent of GDP.
  - Gross public fixed capital formation — Gross public fixed capital formation in current prices, deflated by the CPI.
  - Gross private fixed capital formation — Gross private fixed capital formation in current prices, deflated by the CPI.
  - Gross public consumption — Public consumption expenditure, constant prices.
  - Gross private consumption — Private consumption expenditure, constant prices.
  - General government gross debt — World Economic Outlook + Datastream; Gross debt, in percent of GDP.
  - Foreign Direct Investment — UNCTAD Data in current U.S. dollars, converted to constant prices by deflating with the U.S. CPI.
  - International reserves — Data in current U.S. dollars, converted to constant prices by deflating with the U.S. CPI.
  - Official Development Assistance — World Bank World Development Indicators; Net official development assistance and official aid received (constant 2008 US$).
  - Exchange rate — National Currency per U.S. dollar.
  - Real effective exchange rate — IMF’s Information Notice System.

*Source: _wp1369 — 1. Political Instability Events Since 1980; References; Data appendix.*

### References .............................................................................................................

### _wp1369 - References

### Sections
- References ................................................................................................................................11
- Data Appendix .........................................................................................................................12

### Figures
- 1. Real GDP Growth ..................................................................................................................5
- 2. Output Gap .............................................................................................................................5
- 3. Unemployment Rate ..............................................................................................................6
- 4. Gross Fixed Public Capital Formation ...................................................................................6
- 5. Gross Fixed Private Capital Formation..................................................................................6
- 6. Overall Fiscal Balance ...........................................................................................................7
- 7. Current Account Balance .......................................................................................................7
- 8. Selected Financial Flows .......................................................................................................8
- 9. Nominal Currency Depreciation and Inflation During the Crisis ..........................................9
- 10. Aggregate Real Effective Exchange Rate Index ..................................................................9

*Source: _wp1369 - References*

### 1. Political Instability Events Since 1980 .............................................................................

### 1. Political Instability Events Since 1980

### I. Introduction
- Context: Two years after the beginning of the Arab Spring, social unrest continued while the Arab Countries in Transition (ACTs: Egypt, Jordan, Libya, Morocco, Tunisia, and Yemen) experienced an economic downturn.
- Heterogeneity of transitions: ACTs are market economies experiencing intense political instability (PI) characterized by changes in government and large scale social unrest, differing from European transition economies.
- Literature: Prior studies document a bi-directional relationship between economic growth and PI and identify channels—investment, inflation, productivity, and capital accumulation—through which PI affects growth (e.g., Burke and Leigh (2010); Alesina et al (1996); Alesina and Perotti (1993); Aisen and Veiga (2006, 2010); Credit Suisse (2011)).
- Goal: Analyze trends in key macroeconomic variables from past PI episodes similar in severity to ACTs to infer near-term outlook for ACTs.

### II. Sample Selection and Methodology
- Data source: Cross-National Time-Series (CNTS) Data Archive used to identify events since 1980 in low- and middle-income countries involving general strikes and anti-government demonstrations together with a major government crisis or attempted revolution or coup.
- Screening:
  - Cross-checked CNTS events with news sources to ensure large-scale social unrest.
  - Exclusions: episodes of conflict (e.g., D.R.C., Nepal, Nicaragua, Nigeria, and Sudan), European transition economies, and oil-exporting economies.
  - Resulting sample: 11 PI episodes listed in Table 1 (Libya treated as an outlier and excluded from aggregate analysis).
- Empirical approach:
  - Event study methodology comparing trends in growth, consumption, investment, inflation, external and fiscal balances before, during, and after events (similar to Fischer, Sahay, and Végh (1998); Freund and Jaud (2013); Rasmussen (2004)).
  - Event date defined as first year of significant political and social unrest culminating in regime change or consolidation of power.
  - Comparison with PPP-GDP weighted average for ACTs using 2011 as the event year.
  - Caveats: small sample size limits econometrics; analysis does not control for external economic environment in past episodes.

### III. Main Findings

A. Output
- In past PI episodes:
  - Statistically significant fall in real GDP in the event year, with output declines ranging mostly between 1 and 7 percent.
  - Output gaps turned negative in the event year and continued to widen for some time.
  - On average, output remained below potential for 4 years after the initial drop, with recovery taking around 5 years.
  - Unemployment rose in all sample countries by about 1–1½ percentage points on average during the first two years after the start of political unrest and took between 4 to 5 years to return to pre-crisis levels. (Unemployment data available for only six countries in the sample.)
- ACTs experience:
  - Egypt, Tunisia, and Yemen experienced significant declines in real GDP in 2011; Jordan and Morocco saw growth dip below long-term trend.
  - Actual output below potential and unemployment increased from already high levels.
  - Additional drags on recovery: weak global economy, fiscal vulnerabilities in the ACTs, and regional spillovers from Syria.

B. Consumption and Investment
- Past PI episodes:
  - Private consumption declined slightly on average during the event year; public consumption remained steady (constant prices).
  - Public and private investment declines ranged approximately between 10 and 40 percent during the event year.
  - Public investment did not recover to pre-crisis levels (in percent of GDP) for at least 5 years after the event; private investment also took 5 years to return to pre-crisis levels.
- ACTs:
  - Private and public consumption relatively resilient, especially in Jordan and Morocco.
  - Public investment declined by over 10 percent on average, with large declines in Egypt and Yemen.
  - Private investment decline somewhat subdued following a large decline in 2009.

C. Fiscal Positions
- Past PI episodes:
  - Overall fiscal balances deteriorated by about 1 percent of GDP on average during the event year, and continued to deteriorate in the subsequent two years by a cumulative 1¾ percent of GDP.
  - Revenues recovered slowly, reaching pre-crisis levels (in percent of GDP) four years after the event; government expenditures remained high for two years after the event.
  - Fiscal deficits returned to pre-crisis levels only in year T+4 (where T is event year).
  - Fiscal deterioration and GDP decline adversely affected government debt (in percent of GDP). (Relevant fiscal data available for 8 of the 11 countries in the sample.)
- ACTs:
  - Entered PI with higher overall fiscal deficits than previous PI episodes due to appreciably higher government expenditures (in percent of GDP), despite somewhat higher revenues.
  - Deterioration in ACT fiscal positions significantly larger during 2011-12.
  - Overall fiscal deficit expected to have increased (relative to 2010) by about 2½ percent of GDP in 2011-12 due to declining revenues and increased public expenditures (especially untargeted food and energy subsidies).
  - Government debt has risen.
  - Countercyclical fiscal stance in 2011-12 helped mitigate downturn, but limited fiscal space implies a need for large fiscal consolidation to restore debt sustainability; mobilization of external financing could smooth the adjustment.

D. External Balances and International Reserves
- Past PI episodes:
  - Ten of the 11 sample countries entered PI with large current account deficits, which deteriorated further in the event year.
  - Five years after the event, current account balances improved considerably in seven countries and worsened in 4 of the 11 countries.
  - Investor confidence fell, leading to a sharp fall in inward foreign direct investment; official external assistance pickup was delayed.
  - Declines in reserves were common; reserves returned to pre-crisis levels about four years after the crisis.
- ACTs:
  - External current account deficits widened in the five years prior to 2011 and increased further in 2011-12 by around 2 percent of GDP.
  - FDI and other financial inflows have fallen; gross official reserves have declined sharply.
  - Aggregate decline in gross official international reserves by end-2012 projected to reach nearly 40 percent of the end-2010 level of reserves.

E. Exchange Rates and Inflation
- Past PI episodes:
  - Countries with manageable external vulnerabilities (Côte d’Ivoire, Honduras, Madagascar, Paraguay, South Africa, and Togo) experienced little or no increase in currency depreciation in years T and T+1; inflation in years T and T+1 was lower or in line with prior two years.
  - Countries with high external vulnerabilities (Albania, Argentina, Korea, Myanmar, Philippines) faced significant reserve pressures and allowed large currency depreciations.
  - In Albania, Korea, and Myanmar, average annual nominal currency depreciation ranged between 12 and 18 percent in years T and T+1; passthrough contributed to higher average inflation between 7 and 17 percent.
  - In Argentina and the Philippines, inflation rose less than nominal depreciation; real effective exchange rate (REER) depreciated by about 50 percent in Argentina and 15 percent in the Philippines.
  - For the full sample, REER broadly stable or appreciated around the event but improved competitiveness occurred more clearly after year T+2.
- ACTs:
  - Policymakers limited exchange rate movements in 2011–12; inflation remained generally benign.
  - In early 2013, Egypt allowed greater exchange rate flexibility as international reserves continued to fall, with potential for inflation to increase.
  - Going forward, ACT policymakers are considering greater exchange rate flexibility and a richer monetary policy tool kit to address external vulnerabilities and strengthen competitiveness.

### IV. Conclusion and Policy Recommendations
- Summary of outcomes from PI:
  - Episodes of severe social unrest are accompanied by sharp deterioration in macroeconomic outcomes: sizeable output losses, sluggish recovery with output gaps persisting about 5 years, rising unemployment, lower investment, deteriorating fiscal positions and rising debt, declining reserves with slow recovery, and mixed external current account outcomes.
  - High external vulnerabilities can lead to large currency depreciation and higher inflation.
- ACTs status:
  - ACTs display many trends seen in past PI episodes: output decline in 2011 in Egypt, Tunisia, Yemen; economic activity remained low in 2012; unemployment increased; fiscal deficits widened; external current account deficits deteriorated; international reserves declined; inflation muted due to weak demand.
  - Medium-term recovery complicated by weak external demand (especially from European trading partners), high food and fuel prices, and need for sizable fiscal consolidation due to weak initial fiscal positions.
  - Recovery in ACTs could be delayed more than in past PI episodes; pressures on fiscal and external stability likely to be more intense.
- Policy measures recommended:
  - Implement a growth-friendly fiscal adjustment to reduce generalized subsidies, bolster investment, and strengthen targeted social safety nets.
  - Mobilize international financing to facilitate a gradual fiscal adjustment.
  - Increase exchange rate flexibility to improve external shock absorption and competitiveness.
  - Implement institutional and regulatory reforms to raise potential growth and create greater and more equal access to economic and employment opportunities.
  - Deliver higher standards of living through policy reforms to reduce the likelihood of recurrence of political instability.

*Source: _wp1369 - 1. Political Instability Events Since 1980 (IMF working paper content provided).*

### REFERENCES

### _wp1369 - REFERENCES

### References
- Alesina, A., Ozler, S., Roubini, N. and Swagel, P. (1996). ―Political Instability and Economic Growth‖, Journal of Economic Growth, Vol. 1 (2), pp. 189–211.
- Alesina, A., and Perotti, R. (1996). ―Income Distribution, Political Instability and Investment‖, European Economic Review, Vol. 40 (6), pp. 1203–28.
- Aisen, A. and Veiga, F.J. (2006). ―Does Political Instability Lead to Higher Inflation? A Panel Data Analysis‖, Journal of Money, Credit, and Banking, Vol. 38 (5), pp. 1379–89.
- Aisen, A. and Veiga, F.J. (2011). ―How Does Political Instability Affect Economic Growth?‖, IMF Working Papers, WP/11/12.
- Burke, P.J., and Leigh, A. (2010). ―Do Output Contractions Trigger Democratic Change?‖, American Economic Journal: Macroeconomics, Vol. 2(4), pp. 124–57.
- Credit Suisse Research Institute. (2011). ―From Spring to Revival: Regime Change and Economic Transformation‖, pp. 10–14.
- Fischer, S., Sahay, R. and Végh, C. (1998). ―From Transition to Market: Evidence and Growth Prospects‖, IMF Working Papers, WP/98/52.
- Freund, C., and Jaud, M. (2013). ―Regime Change, Democracy and Growth‖, CEPR Discussion Paper 9282.
- International Monetary Fund. (2012). Regional Economic Outlook: Middle East and Central Asia (November; Washington: International Monetary Fund).
- Rasmussen, T.N. (2004). ―Macroeconomic Implications of Natural Disasters in the Caribbean‖, IMF Working Papers, WP/04/224.

### Data appendix
- Countries (11) included in this study are Albania, Argentina, Côte d’Ivoire, Honduras, Korea, Madagascar, Myanmar, Paraguay, Philippines, South Africa, and Togo.

- Data series are from the IMF’s World Economic Outlook database, unless mentioned otherwise below:

  - Real GDP  
    - GDP in constant prices

  - Unemployment rate  
    - Unemployment rate (in percent)

  - Inflation  
    - CPI, period average (percent change)

  - Current Account balance  
    - Current account balance, in percent of GDP

  - Fiscal balance  
    - World Economic Outlook + Datastream  
    - General government overall fiscal balance, in percent of GDP

  - Gross public fixed capital formation  
    - Gross public fixed capital formation in current prices, deflated by the CPI

  - Gross private fixed capital formation  
    - Gross private fixed capital formation in current prices, deflated by the CPI

  - Gross public consumption  
    - Public consumption expenditure, constant prices

  - Gross private consumption  
    - Private consumption expenditure, constant prices

  - General government gross debt  
    - World Economic Outlook + Datastream  
    - Gross debt, in percent of GDP

  - Foreign Direct Investment  
    - UNCTAD Data in current U.S. dollars, converted to constant prices by deflating with the U.S. CPI

  - International reserves  
    - Data in current U.S. dollars, converted to constant prices by deflating with the U.S. CPI

  - Official Development Assistance  
    - World Bank World Development Indicators  
    - Net official development assistance and official aid received (constant 2008 US$)

  - Exchange rate  
    - National Currency per U.S. dollar

  - Real effective exchange rate  
    - IMF’s Information Notice System  

*Source: _wp1369 - REFERENCES (PDF chapter/section).*

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