Journal of Business and Policy Research Vol. 7. No. 1. April 2012 Special Issue. Pp. 49 - 59 Decentralization and Macroeconomic Instability: The Importance of Political and Institutional Factors Ahmad Zafarullah Abdul Jalil*, Mukaramah Harun** and Siti Hadijah Che Mat*** The purpose of this paper is to examine the relationship between decentralization and macroeconomic stability. Even though there is a huge literature both theoretically and empirically on the impact of decentralization, only a few of them seems to be interested on the question of the link between decentralization and macroeconomic instability. It is thus our hope through this paper to shed more lights on the issue notably by looking at other dimensions of macroeconomic stability than the ones that are normally used in the literature and by examining other factors that might accentuate or diminish the effects of decentralization on macroeconomic instability. Evidence provided in this paper point to the fact that there is a negative relationship between certain variable of macroeconomic stability and decentralization. Our results also show that the impact of decentralization to be conditional on the level of perceived corruption and political institutions. It is found that the impact of decentralization on macroeconomic stability can be attenuated if corruption is high and the democracy is not being fully implemented. JEL Codes: E31, H5 H6 H7 1. Introduction The main objective of this paper is to fill a critical gap in the literature by analyzing the effects of decentralization on the macroeconomic stability. Indeed a survey of the voluminous literature on decentralization suggests that the question of the links between decentralization and macroeconomic has been relatively scantily analyzed. Even though there is still a lot of room for analysis as far as the effects of decentralization on other aspects of the economy are concerned, we believe that it is in this area that a more thorough analysis are mostly called for. Through this paper, we will try to shed more lights on the issue notably by looking at other dimensions of macroeconomic stability than the ones usually employed in previous studies as well as by examining other factors that might accentuate or diminish the effects of decentralization on macroeconomic stability. 2. Literature Review It is noteworthy that there is a slight tendency to associate decentralization with less macroeconomic stability owing notably to the fact that decentralization is usually accompanied by an increase of autonomy level of the local governments. *Dr. Ahmad Zafarullah Abdul Jalil, College of Business, Universiti Utara Malaysia Email : zafar@uum.edu.my **Dr. Mukaramah Harun, College of Business, Universiti Utara Malaysia Email : mukaramah@uum.edu.my ***Dr. Siti Hadijah Che Mat, College of Business, Universiti Utara Malaysia Email : hadijah@uum.edu.my