Abstract
In the attempt to better explain economic policies, this chapter introduces selfish motives on the part of policy makers. While they may have one eye on the national interest, as in Chap. 2, the other eye is fixed on individual gains such as being re-elected or increasing personal income. Our main purpose is to highlight the ways that politics and selfish motives distort fiscal policy and lower national welfare.
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Notes
- 1.
This result is in contrast to Peletier et al. (1999) who find that polarization does not alter the efficient investment choice. They assume that public investment does not increase private income, only the resources available to the government. The Appendix to this chapter explains the difference in results in more detail.
- 2.
Despite the difference in the unconstrained case, the result that a borrowing constraint leads to inefficiently low public investment is consistent with Peletier et al. (1999).
- 3.
Easterly (2001) argues that increased education will not lead to increased production when the incentives are not right. “One clue as to why education is worth little more than hula hoops to a society that wants to grow comes from what educated people are doing with their skills. In an economy with extensive government intervention, the activity with the highest returns to skills might be lobbying the government for favors. In an economy with many government interventions, skilled people opt for activities that redistribute income rather than activities that create growth.” (p.82)
- 4.
A household from group j has after-tax income (1 − τ i )y i h ij . The effect of an increase in h ij is \( {y}_i\left[1-{\tau}_i-\frac{d{\tau}_i}{dh_{ij}}{h}_{ij}\right] \). Differentiating the budget constraint with respect to h ij , gives \( \frac{d{\tau}_i}{dh_{ij}}=-\frac{\tau_i}{m}{h}_{ij} \). Substituting into the expression for the change in disposable income gives \( {y}_i\left[1-{\tau}_i+\frac{\tau_i}{m}\right] \), where we have used the fact that h i = h ij under our symmetry assumption. The variable y i does not appear in (18) because it appears on both sides and can be cancelled.
- 5.
Higher taxes would also hit the wages paid to those in unproductive government employment. However, interest groups would work to protect their after-tax wages by lobbying for higher before-tax wages, so that their net transfer from the government remains the same. Thus, taxes will primarily lower the reward to productive work.
- 6.
In stressing the importance of cutting government consumption to repay loans, we do not deny that in many poor countries the allocation of government consumption is inefficient. Productive bureaucrats are paid too little and unproductive ones are paid too much. We feel the level of government consumption is a bigger problem in many countries and an easier problem to address. Although difficult to implement, the best policy would be to cut government consumption overall and reallocate spending to productive government employees.
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Appendix
Appendix
In Sect. 3.5, we found that political polarization causes over-investment in public capital when governments are free to borrow. This result is in contrast to Peletier et al. (1999) who find that polarization does not alter the efficient investment choice. They assume that public investment does not increase private income; only the resources available to the government rise with public investment. Their assumption eliminates the insurance advantage of public investment that occurs when investment also raises private income regardless of which party is in power. The fact that households attach greater value to a rise in private income when no government transfers are received is what causes them to marginally favor investment over a reduction in government debt .
To see that the difference in results depends on whether public investment is assumed to affect private income, suppose that y 1 and y 2 represent income received only by the government to fund public spending. We now assume that every household’s private income is exogenous and equal to 1 in each period. The government budget constraints become
and
As in the text, suppose that the type-R party is currently in power and that there is extreme political polarization . The government’s objective function becomes
The resulting first order conditions are
Combing the first order conditions clearly yields the efficient investment result, \( \mu {Ag}_2^{\mu -1}=1+{r}^{\ast } \), as in Peletier et al. (1999).
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Ivanyna, M., Mourmouras, A., Rangazas, P. (2018). Politics and Corruption in the Two-Period Model. In: The Macroeconomics of Corruption. Springer Texts in Business and Economics. Springer, Cham. https://doi.org/10.1007/978-3-319-68666-0_3
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