Openness and the Size of Government : The Case of External Risk, Country Size and Deindustrialization

The role of government in the process of globalization has been discussed extensively in recent years. The two “rivaling” theories that best reflect conventional wisdom are the “efficiency” and the “compensation” hypothesis. With regard to the compensation hypothesis, I challenge whether external risk, stemming from a country’s exposure to world trade, has causally driven the size of government in high- and low-income countries, as it has been frequently proposed. I use a large cross-country sample and a more confined sample of time-series-cross- section data for twenty OECD nations to study the impact of openness – supposedly proxying for external trade risk – on government size. While much support for other theories trying to explain the growth of government is found, little support that external risk had a significant effect on the size of government emerges from the analysis. The article provides a range of evidence suggesting a more complex relationship between openness to trade and the size of the public sector