Political Influences on Policy Choice
Keynes (1926) believed that capitalism ‘can probably be made more efficient
for attaining economic ends than any alternative yet in sight’. However, for
that to be the case would necessarily involve an extension of government
intervention in the economy. Classical economists did not deny that fluctuations
in aggregate economic activity could occur, but they firmly believed
that the self-correcting forces of the price mechanism would prevail and
restore the system to full employment within an acceptable time period. By
the mid-1920s Keynes was already expressing his disillusionment with this
classical laissez-faire philosophy which presented a vision of capitalist market
economies where order and stability were the norm. For Keynes the wise
management of capitalism was defended as the only practicable means of
‘avoiding the destruction of existing economic forms in their entirety’. Hence
the orthodox Keynesian view evolved out of the catastrophic experience of
the Great Depression and suggested that market economies are inherently
unstable. Such instability generates welfare-reducing fluctuations in aggregate
output and employment (see Chapters 1–3). As a result, ‘old’ Keynesians
argue that this instability can and should be corrected by discretionary monetary
and fiscal policies (see Modigliani, 1977; Tobin, 1996). Implicit in this
orthodox Keynesian view is the assumption that governments actually desire
stability.
Michal Kalecki (1943) was one of the first economists to challenge this
rather naive assumption by presenting a Marxo-Keynesian model where a
partisan government, acting on behalf of capitalist interests, deliberately creates
politically induced recessions in order to reduce the threat to profits resulting
from the enhanced bargaining power of workers. This increased bargaining
power is acquired as a direct result of prolonged full employment. In Kalecki’s
model it is the dominance of capitalists’ interests which, by generating an
unrepresentative political mechanism, causes the political business cycle (see
Feiwel, 1974). Akerman (1947), anticipating later developments, suggested
that the electoral cycle, by influencing economic policies, would also contribute
to aggregate instability. This of course runs counter to traditional Keynesian
models which treat the government as exogenous to the circular flow of income
and in which politicians are assumed to act in the interests of society. According
to Harrod (1951), Keynes was very much an élitist who assumed that
economic policy should be formulated and implemented by enlightened people
drawn from an intellectual aristocracy. These ‘presuppositions of Harvey road’
imply that Keynes thought that economic policies would always be enacted in
the public interest. This benevolent dictator image of government acting as a
platonic guardian of social welfare has increasingly been questioned by economists.
In particular the work of public choice economists has called into question
the assumption that elected politicians will always pursue policies aimed at
maximizing net social benefit (see Buchanan et al., 1978). During the early
days of the Keynesian revolution Joseph Schumpeter also recognized that,
since capitalist democracies are inhabited by politicians who compete for votes,
this will inevitably influence policy decisions and outcomes (see Schumpeter,
1939, 1942). For example, from a public choice perspective Keynesian economics
is seen to have fundamentally weakened the fiscal constitutions of
industrial democracies by giving respectability to the idea that budget deficits
should be accepted as a method of reducing the risk of recessions. Buchanan et
al. (1978) argue that such a philosophy, operating within a democratic system
where politicians are constantly in search of electoral favour, inevitably leads to
an asymmetry in the application of Keynesian policies. Because voters do not
understand that the government faces an intertemporal budget constraint, they
underestimate the future tax liabilities of debt-financed expenditure programmes,
that is, voters suffer from ‘fiscal illusion’ (see Alesina and Perotti, 1995a).
Instead of balancing the budget over the cycle (as Keynes intended), in accordance
with Abba Lerner’s (1944) principle of functional finance, stabilization
policies become asymmetric as the manipulation of the economy for electoral
purposes generates a persistent bias towards deficits. A deficit bias can also
result from strategic behaviour whereby a current government attempts to
influence the policies of future governments by manipulating the debt (Alesina,
1988).
Given these considerations, it would seem that macroeconomists ought to
consider the possibility that elected politicians may engage in ‘economic
manipulation for political profit’ (Wagner, 1977). In the neoclassical political
economy literature government is no longer viewed as exogenous; rather it is
(at least) partially endogenous and policies will reflect the various interests in
society (Colander, 1984). This is certainly not a new insight, as is evident
from the following comment taken from Alexis de Tocqueville’s famous
discussion of Democracy in America (1835):
It is impossible to consider the ordinary course of affairs in the United States
without perceiving that the desire to be re-elected is the chief aim of the President
… and that especially as [the election] approaches, his personal interest takes the
place of his interest in the public good.
Although Keynes had an extremely low opinion of most politicians, in the
context of his era it never really crossed his mind to view the political process
as a marketplace for votes. What Keynes had in mind was what can be
described as a linear model of the policy-making process whereby the role of
the economist is to offer advice, predictions and prescriptions, based on
sound economic analysis, to role-oriented politicians responsible for policy
making. In turn, it is assumed that that because politicians are looking for
efficient solutions to major economic problems, they will automatically take
the necessary actions to maximize social welfare by following the impartial
and well-informed advice provided by their economic advisers. The traditional
economists view of the policy-making process is illustrated in the
upper part of Figure 10.1.
The conventional approach to the analysis of policy making traditionally
adopted the approach of Tinbergen (1952) and Theil (1956). For example, in
the traditional optimizing approach pioneered by Theil the policy maker is
modelled as a ‘benevolent social planner’ whose only concern is to maximize
social welfare. Thus the conventional normative approach to the analysis of
economic policy treats the government as exogenous to the economy. Its only
interest is in steering the economy towards the best possible outcome. Economic
policy analysis is reduced to a technical exercise in maximization
subject to constraint.
From a new political economy perspective policy makers will be heavily
influenced by powerful societal and state-centred forces rather than acting
impartially on the advice of economists. Therefore the theoretical insights
and policy advice based on those insights that economists can offer are
mediated through a political system that reflects a balance of conflicting
interests that inevitably arise in a country consisting of heterogeneous individuals.
In the society-centred approach, various groups exert pressure on the
policy maker to ‘supply’ policies that will benefit them directly or indirectly.
While neo-Marxists typically focus on class struggle and the power of the
capitalist class, the new political economy literature highlights the influence
of interest groups (for example farmers), political parties and voters. In the
state-centred approach, emphasis on the role of technocrats is equivalent to
accepting the ‘benevolent dictator’ assumption. In contrast, the new politica
economy literature focuses on the impact that bureaucrats and state interests
exert on the policy maker.
The traditional approach to the policy-making process adopted by economists
was neatly summarized by Tony Killick (1976) many years ago, in a
critique of ‘The Possibilities of Developent Planning’:
Economists have adopted a rational actor model of politics. This would have us
see governments as composed of publicly-spirited, knowledgeable, and role-oriented
politicians: clear and united in their objectives; choosing those policies
which will achieve optimal results for the national interest; willing and able to go
beyond a short-term point of view. Governments are stable, in largely undifferentiated
societies; wielding a centralized concentration of power and a relatively
unquestioned authority; generally capable of achieving the results they desire
from a given policy decision.
In reality, societies are often fragmented and heterogeneous, especially if there
are significant religious, ethnic, linguistic and geographical divides compounded
by extreme inequalities of income and wealth. As a result governments will
frequently be preoccupied with conflict management, representing particular
rather than general interests, responding to a constantly shifting balance of
preferences. In such a world concepts such as the ‘national interest’ and ‘social
welfare function’ have little operational meaning. ‘Decision making in the face
of major social divisions becomes a balancing act rather than a search for
optima; a process of conflict resolution in which social tranquility and the
maintenance of power is a basic concern rather than the maximization of the
rate of growth’ (Killick, 1976).
In modelling politico-economic relationships the new political macroeconomics
views the government as standing at the centre of the interaction
between political and economic forces. Once this endogenous view of government
is adopted, the welfare-maximizing approach to economic policy
formulation associated with the normative approach ‘is no longer logically
possible’ (see Frey, 1978). Incumbent politicians are responsible for the choice
and implementation of economic policy, and their behaviour will clearly be
shaped by the various institutional constraints that make up the political
system. Accordingly, a politico-economic approach to the analysis of macroeconomic
phenomena and policy highlights the incentives which confront
politicians and influences their policy choices.
Keynes (1926) believed that capitalism ‘can probably be made more efficient
for attaining economic ends than any alternative yet in sight’. However, for
that to be the case would necessarily involve an extension of government
intervention in the economy. Classical economists did not deny that fluctuations
in aggregate economic activity could occur, but they firmly believed
that the self-correcting forces of the price mechanism would prevail and
restore the system to full employment within an acceptable time period. By
the mid-1920s Keynes was already expressing his disillusionment with this
classical laissez-faire philosophy which presented a vision of capitalist market
economies where order and stability were the norm. For Keynes the wise
management of capitalism was defended as the only practicable means of
‘avoiding the destruction of existing economic forms in their entirety’. Hence
the orthodox Keynesian view evolved out of the catastrophic experience of
the Great Depression and suggested that market economies are inherently
unstable. Such instability generates welfare-reducing fluctuations in aggregate
output and employment (see Chapters 1–3). As a result, ‘old’ Keynesians
argue that this instability can and should be corrected by discretionary monetary
and fiscal policies (see Modigliani, 1977; Tobin, 1996). Implicit in this
orthodox Keynesian view is the assumption that governments actually desire
stability.
Michal Kalecki (1943) was one of the first economists to challenge this
rather naive assumption by presenting a Marxo-Keynesian model where a
partisan government, acting on behalf of capitalist interests, deliberately creates
politically induced recessions in order to reduce the threat to profits resulting
from the enhanced bargaining power of workers. This increased bargaining
power is acquired as a direct result of prolonged full employment. In Kalecki’s
model it is the dominance of capitalists’ interests which, by generating an
unrepresentative political mechanism, causes the political business cycle (see
Feiwel, 1974). Akerman (1947), anticipating later developments, suggested
that the electoral cycle, by influencing economic policies, would also contribute
to aggregate instability. This of course runs counter to traditional Keynesian
models which treat the government as exogenous to the circular flow of income
and in which politicians are assumed to act in the interests of society. According
to Harrod (1951), Keynes was very much an élitist who assumed that
economic policy should be formulated and implemented by enlightened people
drawn from an intellectual aristocracy. These ‘presuppositions of Harvey road’
imply that Keynes thought that economic policies would always be enacted in
the public interest. This benevolent dictator image of government acting as a
platonic guardian of social welfare has increasingly been questioned by economists.
In particular the work of public choice economists has called into question
the assumption that elected politicians will always pursue policies aimed at
maximizing net social benefit (see Buchanan et al., 1978). During the early
days of the Keynesian revolution Joseph Schumpeter also recognized that,
since capitalist democracies are inhabited by politicians who compete for votes,
this will inevitably influence policy decisions and outcomes (see Schumpeter,
1939, 1942). For example, from a public choice perspective Keynesian economics
is seen to have fundamentally weakened the fiscal constitutions of
industrial democracies by giving respectability to the idea that budget deficits
should be accepted as a method of reducing the risk of recessions. Buchanan et
al. (1978) argue that such a philosophy, operating within a democratic system
where politicians are constantly in search of electoral favour, inevitably leads to
an asymmetry in the application of Keynesian policies. Because voters do not
understand that the government faces an intertemporal budget constraint, they
underestimate the future tax liabilities of debt-financed expenditure programmes,
that is, voters suffer from ‘fiscal illusion’ (see Alesina and Perotti, 1995a).
Instead of balancing the budget over the cycle (as Keynes intended), in accordance
with Abba Lerner’s (1944) principle of functional finance, stabilization
policies become asymmetric as the manipulation of the economy for electoral
purposes generates a persistent bias towards deficits. A deficit bias can also
result from strategic behaviour whereby a current government attempts to
influence the policies of future governments by manipulating the debt (Alesina,
1988).
Given these considerations, it would seem that macroeconomists ought to
consider the possibility that elected politicians may engage in ‘economic
manipulation for political profit’ (Wagner, 1977). In the neoclassical political
economy literature government is no longer viewed as exogenous; rather it is
(at least) partially endogenous and policies will reflect the various interests in
society (Colander, 1984). This is certainly not a new insight, as is evident
from the following comment taken from Alexis de Tocqueville’s famous
discussion of Democracy in America (1835):
It is impossible to consider the ordinary course of affairs in the United States
without perceiving that the desire to be re-elected is the chief aim of the President
… and that especially as [the election] approaches, his personal interest takes the
place of his interest in the public good.
Although Keynes had an extremely low opinion of most politicians, in the
context of his era it never really crossed his mind to view the political process
as a marketplace for votes. What Keynes had in mind was what can be
described as a linear model of the policy-making process whereby the role of
the economist is to offer advice, predictions and prescriptions, based on
sound economic analysis, to role-oriented politicians responsible for policy
making. In turn, it is assumed that that because politicians are looking for
efficient solutions to major economic problems, they will automatically take
the necessary actions to maximize social welfare by following the impartial
and well-informed advice provided by their economic advisers. The traditional
economists view of the policy-making process is illustrated in the
upper part of Figure 10.1.
The conventional approach to the analysis of policy making traditionally
adopted the approach of Tinbergen (1952) and Theil (1956). For example, in
the traditional optimizing approach pioneered by Theil the policy maker is
modelled as a ‘benevolent social planner’ whose only concern is to maximize
social welfare. Thus the conventional normative approach to the analysis of
economic policy treats the government as exogenous to the economy. Its only
interest is in steering the economy towards the best possible outcome. Economic
policy analysis is reduced to a technical exercise in maximization
subject to constraint.
From a new political economy perspective policy makers will be heavily
influenced by powerful societal and state-centred forces rather than acting
impartially on the advice of economists. Therefore the theoretical insights
and policy advice based on those insights that economists can offer are
mediated through a political system that reflects a balance of conflicting
interests that inevitably arise in a country consisting of heterogeneous individuals.
In the society-centred approach, various groups exert pressure on the
policy maker to ‘supply’ policies that will benefit them directly or indirectly.
While neo-Marxists typically focus on class struggle and the power of the
capitalist class, the new political economy literature highlights the influence
of interest groups (for example farmers), political parties and voters. In the
state-centred approach, emphasis on the role of technocrats is equivalent to
accepting the ‘benevolent dictator’ assumption. In contrast, the new politica
economy literature focuses on the impact that bureaucrats and state interests
exert on the policy maker.
The traditional approach to the policy-making process adopted by economists
was neatly summarized by Tony Killick (1976) many years ago, in a
critique of ‘The Possibilities of Developent Planning’:
Economists have adopted a rational actor model of politics. This would have us
see governments as composed of publicly-spirited, knowledgeable, and role-oriented
politicians: clear and united in their objectives; choosing those policies
which will achieve optimal results for the national interest; willing and able to go
beyond a short-term point of view. Governments are stable, in largely undifferentiated
societies; wielding a centralized concentration of power and a relatively
unquestioned authority; generally capable of achieving the results they desire
from a given policy decision.
In reality, societies are often fragmented and heterogeneous, especially if there
are significant religious, ethnic, linguistic and geographical divides compounded
by extreme inequalities of income and wealth. As a result governments will
frequently be preoccupied with conflict management, representing particular
rather than general interests, responding to a constantly shifting balance of
preferences. In such a world concepts such as the ‘national interest’ and ‘social
welfare function’ have little operational meaning. ‘Decision making in the face
of major social divisions becomes a balancing act rather than a search for
optima; a process of conflict resolution in which social tranquility and the
maintenance of power is a basic concern rather than the maximization of the
rate of growth’ (Killick, 1976).
In modelling politico-economic relationships the new political macroeconomics
views the government as standing at the centre of the interaction
between political and economic forces. Once this endogenous view of government
is adopted, the welfare-maximizing approach to economic policy
formulation associated with the normative approach ‘is no longer logically
possible’ (see Frey, 1978). Incumbent politicians are responsible for the choice
and implementation of economic policy, and their behaviour will clearly be
shaped by the various institutional constraints that make up the political
system. Accordingly, a politico-economic approach to the analysis of macroeconomic
phenomena and policy highlights the incentives which confront
politicians and influences their policy choices.
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