Environment and economic growth: is the rule of law the go-between? The case of high-income countries

Abstract

The links between pollution, institutions, and economic growth may be not so univocal as argued in the literature, as these factors may influence each other since some reverse causality may exist between them. The understanding of this relationship is important for identifying appropriate policies for sustainable development. We investigate the long-run relationship between pollution, institutions, and economic growth, considering as variables carbon dioxide emissions, rule of law, and income. The model offers an analysis of causality direction using a panel-VAR approach for the period 1996–2010 for 33 high-income countries that include advanced, emerging, and former-transition economies. The results demonstrate a positive reverse causality relationship between the rule of law and income, indicating that higher income implies stronger rule of law and vice versa. The rule of law is found to have a negative relationship with pollution, confirming that the enforcement of rules is “a conditio sine qua non” to control emissions. No causality relationship is found for pollution and income that can be due to the different stages of economic development of emerging, former-transition, and developed economies, implying heterogeneity in their environmental protection policies. We argue that the rule of law matters both for economic growth and environment, working as a go-between and creating a win–win situation, where stronger institutions increase the levels of income and vice versa. In order to enhance sustainable development, a policy maker should allocate additional resources for both monitoring the application of the rule of law and its enforcement.