| Abstract | This paper builds up a model to investigate the mechanism through which volatility affect industrial structure, based on the theory of incomplete contract and biased technology change. In addition, we empirically test the effect of economic volatility on industrial structure using cross-country production and trade data of the manufacturing industry. The results show that: first, volatility has a significant negative effect on industrial structure upgrading, which robustly holds after controlling for variables including contract enforcement, financial development and human capital endowment. Second, both the absolute value and statistical significance of volatility are larger than that of financial development and traditional factor endowment such as human capital; third, subsample regression implies that, the effect of volatility on industrial structure is relatively larger for developing countries with less developed legal system. Thus maintaining macro-economy stability is especially important for developing countries. |