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10.2 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

Source: Adapted from Meier (1995).

Figure 10.1 Influences on policy choice

Economist

Advice,

predictions

and

prescriptions

Policy

maker

Choice of

policy

Policy action

and

implementation

Policy

outcomes

Classes

Interest groups

Political parties

Voters

Society-centred forces

Technocrats

Bureaucrats

State interests

State-centred forces

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 political

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.