Can institutional quality reduce geopolitical risk? Evidence from G20 countries

The existing body of literature encompasses the dimensions of institutional quality, as well as their relationships with various sectors, including foreign direct investment, trade, economic growth and the energy sector. However, a significant gap remains between institutional quality and geopolitical risk relationships. To investigate the association between institutional quality and geopolitical risk, we utilize panel vector autoregression and generalized method of moments on panel data for G20 countries from 2002 to 2022. Results from panel vector autoregression-generalized method of moments reveal that higher institutional quality, particularly political stability, plays a crucial mitigating role in reducing long-term geopolitical risk, indicating primarily unidirectional causality from institutions to geopolitical risk. However, geopolitical risk is persistent and self-reinforcing over time, with only limited and short-term effects on institutional indicators such as government effectiveness, political stability and rule of law, supporting weak reverse causality. Granger causality tests confirm limited bidirectionality, with institutional quality driving geopolitical risk reductions rather than vice versa.