The theory in action

We now consider two more examples that further demonstrate our theory of institutions in action. Like the examples discussed in Section 7, these examples contain all the elements of our theory laid out in a skeletal way in Section 1.2.

9.1. Rise of constitutional monarchy and economic growth in early modern Europe

Our first example is the rise of constitutional monarchy in Europe. In the medieval period most European nations were governed by hereditary monarchies. However, as the feudal world changed, various groups struggled to gain political rights and re­duce the autocratic powers of monarchies. In England, this process began as early as 1215 when King John was forced by his barons to sign the Magna Carta, a document which increased the powers of the barons, introduced the concept of equality before the law, and forced subsequent kings to consult with them. Many other European nations also developed ‘parliaments’ which kings could summon to discuss taxation or war­fare [see Graves (2001), Ertman (1997)]. Nevertheless, the movement towards limited, constitutional monarchy was not linear or simple. Indeed, in France, certainly from the beginning of Louis XIV's reign in 1638, a more powerful absolutist monarchy appeared with very few controls. Indeed the feudal French parliaments, the Estates General, were not summoned between 1614 and 1788, just before the Revolution.

In England, the Tudor monarchs, particularly Henry VIII and then Elizabeth I, fol­lowed by the first Stuart kings, James I and Charles I, also attempted to build an ab­solutist monarchy.

Other places in Europe, particularly the Netherlands, saw similar developments to those in England. Under the Dukes of Burgundy, the Netherlands had won a consider­able amount of political and economic freedom, particularly under the Grand Privilege of 1477 which gave the States General of the Burgundian Netherlands the right to gather on their own initiative and curbed the right of the ruler to raise taxes. However, the Netherlands were inherited by the Hapsburgs through marriage, and by 1493 Max­imilian of Hapsburg had reversed the Grand Privilege. After 1552, war with France increased the Hapsburgs’ fiscal needs and led them to impose a large tax burden on the Netherlands, already a prosperous agricultural and mercantile area. Growing fiscal and religious resentment in 1572 led to a series of uprisings against the Hapsburgs, mostly orchestrated by commercial interests. These culminated in the War of Independence which was finally won in 1648.

While England and the Netherlands were developing limited constitutional govern­ments, Spain and Portugal were moving in the same direction as France, towards greater absolutism. Davis (1973a, p. 66) notes [in Castille] “the king ruled subject only to weak constitutional restraints. In the first decades of the sixteenth century the crown had re­duced the pretensions of the Castillian nobility and towns, so that the representative body, the Cortes, could obstruct but not in the last resort prevent royal tax raising.”

These differential institutional trajectories were of enormous consequence.

We proposed an explanation in Acemoglu, Johnson and Robinson (2005) related to the differential responses of these countries to the opportunities of ‘Atlantic trade’, that is, overseas trade and colonial activity unleashed by the discovery of the New World and the rounding of the Cape of Good Hope at the end of the fifteenth century. All five nations engaged in Atlantic trade, but they did so in different ways, with very dif­ferent implications for the organization of society, political institutions and subsequent economic growth.

In England “most trade was carried on by individuals and small partnerships, and not by the Company of Merchant Adventurers, the Levant Company... or others of their kind” [Davis (1973b, p. 41)]. At least by 1600 there was quite free entry into the Eng­lish merchant class. The same was true in the Netherlands. In contrast, Cameron (1993, p. 127) describes the Portuguese situation as follows: “The spice trade in the East Indies of the Portuguese Empire was a crown monopoly; the Portuguese navy doubled as a merchant fleet, and all spices had to be sold through the Casa da India (India House) in Lisbon... no commerce existed between Portugal and the East except that organized and controlled by the state”.

The source of the differences in the organization of trade, in turn, reflected the differ­ent political institutions of these countries. At the time, the granting of trade monopolies was a key fiscal instrument to raise revenues; the more powerful monarchs could in­crease their revenues by granting trade monopolies or by directly controlling overseas trade, while weaker monarchs could not. At the turn of the fifteenth century, the crown was much stronger in France, Spain and Portugal than in Britain and the Netherlands, and this was the most important factor in the differences in the organization of overseas trade. In fact, when both Tudor and Stuart monarchs attempted to create monopolies similar to those in Spain and Portugal, this was successfully blocked by the English Par­liament [see, for example, Hill (1969)]. Consequently, as world trade expanded in the sixteenth and early seventeenth centuries, in England and the Netherlands it enriched merchants engaged in overseas trade, but in France, Spain and Portugal it enriched the crown and groups allied with it. In England and the Netherlands, but not in France, Spain and Portugal, a new class of merchants (and gentry in England) arose with inter­ests directly opposed to those of the Stuarts and the Hapsburgs, and this group was to play a central part in subsequent political changes.

In the case of the Netherlands, de Vries and van der Woude (1997) argue that “urban economic interests ultimately believed it advantageous to escape the Hapsburg imperial framework” (p. 369), and that it was “the traditional pillars of the maritime economy... that supported and strengthened the young Republic in its hour of need” (p. 366). Moreover, in the case of Amsterdam, “[Hapsburgs’] opponents included most of the city’s international merchants... In 1578 a new Amsterdam city council threw the city’s lot in with the Prince of Orange... among the merchants returning from... exile were [those whose families] and several generations of their descendants would long dominate the city” (1997, p. 365). The expansion of world trade enriched and expanded precisely those groups within Dutch society most opposed to Hapsburg rule. Israel (1995, pp. 241-242) writes: “From 1590, there was a dramatic improvement in the Republic’s economic circumstances. Commerce and shipping expanded enormously, as did the towns. As a result, the financial power of the states rapidly grew, and it was possible to improve the army vastly, both qualitatively, and quantitatively, within a short space of time. The army increased from 20,000 men in 1588 to 32,000 by 1595, and its artillery, methods of transportation, and training were transformed” [see also Israel (1989, Chapter 3)]. By 1629, the Dutch were able to field an army of 77,000 men, 50% larger than the Spanish army of Flanders [Israel (1995, p. 507)]. As a consequence of the Dutch revolt, the Netherlands developed a republican form of government closely attuned to mercantile interests. De Vries and van der Woude (1997, p. 587) describe the new political elite following the Dutch Revolt as: “6 to 8% of urban households with incomes in excess of 1,000 guilders per year. This was the grote burgerij from whom was drawn the political and commercial leadership of the country. Here we find, first and foremost, the merchants”, and point out how merchants dominated the governments of Leiden, Rotterdam and the cities in two largest states, Zeeland and Holland.

In England, the Civil War and Glorious Revolution coincided with the great ex­pansion of English mercantile groups into the Atlantic. The East India Company was founded in 1600 as the culmination of a series of efforts to develop trade routes with Asia. The 1620s saw the great expansion of tobacco cultivation in Virginia and this was shortly followed by the development of the highly profitable English sugar colonies in the Caribbean. Finally, in the 1650s the English began to take over the Atlantic slave trade. Both the Civil War and the Glorious Revolution were at root battles over the rights and prerogatives of the monarchy. In both cases new merchant interests predominantly sided with those in the gentry demanding restrictions on the powers of the monarchy in order to protect their property and commerce.

The majority of merchants trading with the Americas and in Asia supported Parlia­ment during the Civil War. Brunton and Pennington (1954, p. 62) also note “in the country as a whole there was probably a preponderance of Parliamentarian feeling among merchants”. Detailed analyses of the initial members of the Long Parliament in 1640 show that a significant majority of merchants supported the Parliamentarian cause [see Brenner (1973, 1993), Keeler (1954) and Brunton and Pennington (1954)]. Members of the Commons from the City of London (the main center of mercantile ac­tivity), as well as many non-London commercial constituencies, such as Southampton, Newcastle and Liverpool, supported Parliament against the King. These men included both professional merchants and aristocrats who invested in colonizing the Americas. These new merchants also provided the financial support needed by Parliament in the difficult early days of the war. They became the customs farmers for the new regime and therefore advanced tens of thousands of pounds that were essential in building up the army [Brenner (1973, p. 82)].

Pincus (1998, 2001, 2002) further documents the critical role of mercantile interests in the Glorious Revolution. He concludes (2002, p. 34) “England’s merchant community actively supported William’s plan for invasion, and provided a key financial prop to the regime in the critical early months”. He notes that James II favored the East India Company and granted various monopoly privileges, alienating the merchant class. Thus, “no wonder the merchant community poured money into William of Orange’s coffers in 1688” [Pincus (2002, pp. 32-33)].

The changes in the distribution of political power, political institutions and thus eco­nomic institutions that took place in England and the Netherlands had no counterparts in countries with relatively absolutist institutions, like Spain and Portugal, where the crown was able to closely control the expansion of trade. In these countries it was the monarchy and groups allied with it that were the main beneficiaries of the early profits from Atlantic trade, and groups favoring political and economic change did not become strong enough to induce such change. As a result, only in the Netherlands and England did constitutional rule emerge, and only in these two countries were property rights secure. As a result it was these same two countries that prospered.

Why could the monarchies of Spain and Portugal not negotiate a more efficient set of institutions? Alternatively why did the Stuart monarchs in England have to be beheaded or forced from power before better economic institutions could emerge?

It seems quite clear that a change to a more efficient set of institutions in Spain and Portugal would not have been possible under the auspices of the absolutist state, and a reduction in the power of the state was certainly inimical to the interest of the crown. Inthe case of England, Hill (1961a, p. 22) argues directly that the reason that the Tudor and Stuart monarchs were not in favor of efficient economic institutions is because they feared that this would undermine their political power. He notes:

“in general the official attitude to industrial advance was hostile, or at best indif­ferent. It was suspicious of social change and social mobility, the rapid enrichment of capitalists, afraid of the fluctuations of the market and of unemployment, of vagabondage, and social unrest... the Elizabethan codes aimed at stabilizing the existing class structure, the location of industry and the flow of labor supply by granting privileges and by putting hindrances in the way of the mobility and the freedom of contract.”

The account so far explains why a change in the balance of (de facto) political power in England and the Netherlands led to a set of economic institutions favoring the in­terests of merchants. But in fact much more happened during the seventeenth century; an entirely new set of political institutions, constitutional regimes, restricting the power of the monarchy, were introduced. The reason why the merchants and the gentry in England (and the merchants in the Netherlands) used their newfound powers for polit­ical reform illustrates the dynamics of political power emphasized by our theoretical framework.

For example in the case of England, although in 1688 the Parliament might have been strong, it could not be sure that this power would endure. Indeed, the ability to solve the collective action problem and wield de facto power is intrinsically transitory. For instance, the Parliament vanquished James II with the help of a Dutch army, after which they invited William of Orange to take the throne. But how could they anticipate whether or not William would try to assert the absolutist prerogatives that James II had demanded?

The way to make transitory power permanent is to embody it into the rules of the game which is exactly what the English Parliament did after 1688. The changes in institutions after 1688 had large and important effects. For instance, in the eighteenth century the English monarchy was able to borrow huge amounts of money because the fiscal control of Parliament guaranteed that it would not default [see Brewer (1988), Stasavage (2003)]. This borrowing has been seen as crucial to the success of the English war machine. Moreover, with Parliament in control of fiscal policy, the crown was no longer able either to raise money through arbitrary taxation, or to grant monopoly rights in exchange for money - issues which had previously been constant sources of friction between the crown and Parliament. Similarly, after 1688, the greater security of property rights in England led to a huge expansion of financial institutions and markets [Neal

(1990)], which, North and Weingast (1989) argue, laid the institutional foundations for the Industrial Revolution.

Of course the English crown was not without some residual power and might have attempted to mount a coup against Parliament to change political institutions back in its favor. This certainly happened in some places, such as in France after 1849 when Louis Napoleon mounted a successful coup to restore absolutist privileges lost in 1848. Nevertheless, changes in political institutions altered the nature of the status quo in significant ways, and therefore, influenced the future distribution of de jure political power. Political institutions are not cast stone, and they can change, but they still create a source of political power more durable than mere de facto power.

9.2. Summary

The emergence of constitutional rule in some societies of early modern Europe there­fore provides a nice example of how economic institutions, which shape economic outcomes, are determined by political power, which is in turn determined by political institutions and the distribution of resources in society. The Netherlands and England prospered in this period because they had good economic institutions, particularly se­cure property rights and well developed financial markets. They had these economic institutions because their governments were controlled by groups with a strong vested interest in such economic institutions. These groups wielded political power because of the structure of political institutions, i.e., they received de jure power in the Netherlands after the Dutch Revolt and in England after the Civil War and Glorious Revolution.

Moving one step back, we see that political institutions allocated more de jure po­litical power to commercial interests in England and the Netherlands than in France, Spain and Portugal because of major changes in political institutions during the 1600s. These changes took place because commercial interests in England and the Netherlands acquired significant de facto political power as a result of their improving economic fortunes, itself a consequence of the interaction of Atlantic trade and the organization of overseas trade in these countries. Crucially for our framework, these commercial in­terests used their de facto power to reform (or revolutionize) political institutions so as to acquire de jure political power and solidify their gains.

These events, therefore, illustrate the various elements of our theoretical framework. In particular, they show how it is useful to think of political institutions and the dis­tribution of economic resources as the state variables of the dynamic system, which determine the distribution of political power, and via this channel, economic institu­tions and economic outcomes. Political institutions and the distribution of economic resources are, themselves, endogenous, determined by political power and economic in­stitutions, as exemplified by the fact that the distribution of economic resources changed significantly during the sixteenth century as a result of the new economic opportunities presented by the rise of Atlantic trade, and these changes were crucially influenced by the existing economic institutions (the organization of overseas trade). Furthermore, the change in the balance of political power led to the changes in political institutions through the English Civil War, the Glorious Revolution and the Dutch Revolt.

9.3. Rise of electoral democracy in Britain

Our second example, based on Acemoglu and Robinson (2000a, 2001, 2003), is the rise of mass democracy. In the early nineteenth century, European countries were run by small elites. Most had elected legislatures, often descendants of medieval parliaments, but the franchise was highly restricted to males with relatively large amounts of assets, incomes or wealth. However, as the century and the Industrial Revolution progressed, this political monopoly was challenged by the disenfranchised who engaged in collec­tive action to force political change.

In response to these developments, the elites responded in three ways. First by using the military to repress the opposition, as in the responses to the revolutions of 1848. Second, by making economic concessions to buy off opposition - this is the standard explanation for the beginnings of the welfare state in Germany under Bismarck. Finally, if neither repression nor concessions were attractive or effective, elites expanded the franchise and gave political power to the previously disenfranchised - they created the precedents of modern democracy.

The history of the rise of democracy in Britain is in many ways representative of the experiences of many other European countries. The first important move towards democracy in Britain came with the First Reform Act of 1832. This act removed many of the worst inequities under the old electoral system, in particular the ‘rotten boroughs’ where several members of parliament were elected by very few voters. The 1832 reform also established the right to vote based uniformly on the basis of property and income. The reform was passed in the context of rising popular discontent at the existing political status quo in Britain.

By the 1820s the Industrial Revolution was well under way and the decade prior to 1832 saw continual rioting and popular unrest. Notable were the Luddite Riots from 1811-1816, the Spa Fields Riots of 1816, the Peterloo Massacre in 1819, and the Swing Riots of 1830 [see Stevenson (1979) for an overview]. Another catalyst for the reforms was the July revolution of 1830 in Paris. Much of this was led and orchestrated by the new middle-class groups who were being created by the spread of industry and the rapid expansion of the British economy. For example, under the pre-1832 system neither Manchester nor Sheffield had any members of the House of Commons.

There is little dissent amongst historians that the motive for the 1832 Reform was to avoid social disturbances [e.g., Lang (1999, p. 36)]. The 1832 Reform Act increased the total electorate from 492,700 to 806,000, which represented about 14.5% of the adult male population. Yet, the majority of British people could not vote, and the elite still had considerable scope for patronage, since 123 constituencies still contained less than 1000 voters. There is also evidence of continued corruption and intimidation of voters until the Ballot Act of 1872 and the Corrupt and Illegal Practices Act of 1883. The Reform Act therefore did not create mass democracy, but rather was designed as a strategic concession. In presenting his electoral reform to the British Parliament in 1831, the Prime Minister Earl Grey was well aware that this was a measure necessary to prevent a likely revolution. He argued:

“The Principal of my reform is to prevent the necessity for revolution... re­forming to preserve and not to overthrow.” [Quoted in Evans (1983, p. 212)].

Unsurprisingly therefore, the issue of parliamentary reform was still very much alive after 1832, and it was taken up centrally by the Chartist movement. But as Lee (1994, p. 137) notes “The House of Commons was largely hostile to reform because, at this stage, it saw no need for it”. This had changed by 1867, largely due to a juxtaposition of factors, including the sharp business cycle downturn that caused significant economic hardship and the increased threat of violence. Also significant was the founding of the National Reform Union in 1864 and the Reform League in 1865, and the Hyde Park riots of July 1866 provided the most immediate catalyst.

Lang (1999, p. 75) sums up his discussion by saying “The Hyde Park affair, cou­pled with other violent outbursts, helped to underscore the idea that it would be better to keep the goodwill of the respectable workers than to alienate them”. Reform was initially proposed by the Liberal Prime Minister Russell in 1866 but was defeated by the Conservatives and dissident MP’s. As a result Russell’s government fell, and the Conservatives formed a minority administration with Lord Derby as their leader in the House of Lords, and Disraeli in charge of the House of Commons. It was Disraeli who then constructed a coalition to pass the Second Reform Act in 1867. As a result of these reforms, the total electorate was expanded from 1.36 million to 2.48 million, and work­ing class voters became the majority in all urban constituencies. The electorate was doubled again by the Third Reform Act of 1884, which extended the same voting regu­lations that already existed in the boroughs (urban constituencies) to the counties (rural constituencies). The Redistribution Act of 1885 removed many remaining inequalities in the distribution of seats and from this point on Britain only had single member elec­toral constituencies (previously many constituencies had elected two members - the two candidates who gained the most votes). After 1884 about 60% of adult males were en­franchised. Once again social disorder appears to have been an important factor behind the 1884 act.

In Britain, the Reform Acts of 1867-1884 were a turning point in the history of the British state. Economic institutions also began to change. In 1871 Gladstone reformed the civil service, opening it to public examination, making it meritocratic. Liberal and Conservative governments introduced a considerable amount of labor market legisla­tion, fundamentally changing the nature of industrial relations in favor of workers. Dur­ing 1906-1914, the Liberal Party, under the leadership of Asquith and Lloyd George, introduced the modern redistributive state into Britain, including health and unemploy­ment insurance, government financed pensions, minimum wages, and a commitment to redistributive taxation. As a result of the fiscal changes, taxes as a proportion of National Product more than doubled in the 30 years following 1870, and then doubled again. In the meantime, the progressivity of the tax system also increased [Lindert (2004)]. Fi­nally, there is also a consensus amongst economic historians that inequality in Britain fell after the 1870’s [see Lindert (2000, 2004)].

Meanwhile, the education system, which was either primarily for the elite or run by religious denominations during most of the nineteenth century, was opened up to the masses; the Education Act of 1870 committed the government to the systematic provision of universal education for the first time, and this was made free in 1891. The school leaving age was set at 11 in 1893, then in 1899, it increased to 12 and special provisions for the children of needy families were introduced [Mitch (1993)]. As a result of these changes, the proportion of 10-year olds enrolled in school that stood at 40 percent in 1870 increased to 100 percent in 1900 [Ringer (1979, p. 207)]. Finally, a further act in 1902 led to a large expansion in the resources for schools and introduced the grammar schools which subsequently became the foundation of secondary education in Britain.

Following the Great War, the Representation of the People Act of 1918 gave the vote to all adult males over the age of 21, and women over the wage of 30 who were ratepayers or married to ratepayers. Ultimately, all women received the vote on the same terms as men in 1928. The measures of 1918 were negotiated during the war and may reflect to some extent a quid pro quo between the government and the working classes who were needed to fight and produce munitions. Nevertheless, Garrard (2002, p. 69) notes “most assumed that, if the system was to survive and ‘contentment and stability prevail’, universal citizenship could not be denied men, perceived to have suffered so much and to have noticed Russia’s Revolution”.

Overall, the picture which emerges from British political history is clear. Beginning in 1832, when Britain was governed by the relatively rich, primarily rural aristocracy, a series of strategic concessions were made over an 86 year period. These concessions were aimed at incorporating the previously disenfranchised into politics since the al­ternative was seen to be social unrest, chaos and possibly revolution. The concessions were gradual because in 1832, social peace could be purchased by buying off the mid­dle classes. Moreover, the effect of the concessions was diluted by the specific details of political institutions, particularly the continuing unrepresentative nature of the House of Lords. Although challenged during the 1832 reforms, the House of Lords provided an important bulwark for the wealthy against the potential of radical reforms emanat­ing from a democratized House of Commons. Later, as the working classes reorganized through the Chartist movement and later through trade unions, further concessions had to be made. The Great War and the fallout from it sealed the final offer of full democ­racy. Though the pressure of the disenfranchised played less of a role in some reforms than others, and other factors undoubtedly played a role, the threat of social disorder was the main driving force behind the creation of democracy in Britain.

The story of the rise of mass democracy that emerges from the British evidence is one where economic and social changes connected with industrialization (for example, rising inequality) and urbanization increased the de facto power of the disenfranchised. In response, they demanded political rights, in particular changes in the political insti­tutions which would allocate future political power to them. These changes in political institutions were, in many ways, the direct cause of the changes in economic institu­tions, in particular, in the labor market, in government policy, in the educational system, with major distributional implications, including the fall in inequality.

Why did elites in Britain create a democracy? Our discussion makes it clear that democracy did not emerge from the voluntary acts of an enlightened elite. Democracy was, in many ways, forced on the elite, because of the threat of revolution. Nevertheless, democratization was not the only potential outcome in the face of pressure from the dis­enfranchised, or even in the face of the threat of revolution. Many other countries faced the same pressures and political elites decided to repress the disenfranchised rather than make concessions to them. This happened with regularity in Europe in the nineteenth century, though by the turn of the twentieth century most had accepted that democracy was inevitable. Repression lasted much longer as the favorite response of elites in Latin America, and it is still the preferred option for current political elites in China or Burma.

The problem with repression is that it is costly. Faced with demands for democracy political elites face a trade-off. If they grant democracy, then they lose power over policy and face the prospect of, possibly radical, redistribution. On the other hand, repression risks destroying assets and wealth. In the urbanized environment of nineteenth century Europe (Britain was 70% urbanized at the time of the Second Reform Act), the dis­enfranchised masses were relatively well organized and therefore difficult to repress. Moreover, industrialization had led to an economy based on physical, and increasing human, capital. Such assets are easily destroyed by repression and conflict, making repression an increasingly costly option for elites. In contrast, in predominantly agrar­ian societies like many parts of Latin America earlier in the century or current-day Burma, physical and human capital are relatively unimportant and repression is easier and cheaper. Moreover, not only is repression cheaper in such environments, democracy is potentially much worse for the elites because of the prospect of radical land reform. Since physical capital is much harder to redistribute, elites in Western Europe found the prospect of democracy much less threatening.

Faced with the threat of revolt and social chaos, political elites may also attempt to avoid giving away their political power by making concessions, such as income redistri­bution or other policies that favor non-elites and the disenfranchised. The problem with concessions however is their credibility, particularly when de facto power is transitory. For example, if a crisis, such as a harvest failure or business cycle recession creates a window of opportunity to solve the collective action problem and challenge the existing regime, the elites would like to respond with the promise of policy concessions. Yet windows of opportunity disappear and it is difficult to sustain collective action which entails people protesting in the streets and being away from their families and jobs. Thus collective action quickly dissipates and once it does so, the government has an incen­tive to renege on its promise of concessions. The promise of concessions, which people know to be non-credible is unlikely to defuse collective action. Hence, Acemoglu and Robinson (2000a, 2001, 2003) argue that democratization occurred as a way of making credible commitments to the disenfranchised. Democratization was a credible commit­ment to future redistribution, because it reallocated de jure political power away from the elites to the masses. In democracy, the poorer segments of the society would be more powerful and could vote, in other words, could use their de jure political power, to implement economic institutions and policies consistent with their interests. There­fore, democratization was a way of transforming the transitory de facto power of the disenfranchised poor into more durable de jure political power.

9.4. Summary

The emergence of mass democracy is another example illustrating our theory of in­stitutions. Into the nineteenth century, economic institutions, particularly in the labor market, disadvantaged the poor. For example, trade unions were illegal and as late as the 1850 in Britain workers trying to organize a union could be shipped to the penal colony in Tasmania, Australia. The poor could not alter economic institutions in their favor because, being disenfranchised, they had little de jure political power, and also limited de facto power because they were often unable to solve their collective action problems.

However, changes in the structure of society and the economy during the early nine­teenth century altered the balance of political power, in particular making the exercise of de facto power by the politically disenfranchised much easier [Tilly (1995) and Tarrow (1998) document the changing qualitative nature of collective action over this period]. The rise in the de facto political power of the poor necessitated a change in political institutions in their favor to defuse the threat of revolution. This was to tilt the future allocation of de jure political power, and consequently to ensure future economic insti­tutions and policies consistent with their interests.

Whether or not increases in de facto power translated into democracy depended on a number of factors, in particular how difficult and costly it was for elites to use repres­sion to counter the increase in the power of the masses, and how costly the prospect of democracy was. The changes in political institutions that occurred with democracy had profound implications for economic institutions. In the case of Britain, the period after the Second Reform Act of 1867 led the British state to commit itself to providing uni­versal education and it also led to radical changes in labor market institutions allowing trade unions to form legally for the first time and increasing the bargaining power of labor. Hence economic institutions changed radically in favor of those newly endowed with de jure political power, mostly the relatively poor. This is in fact a relatively gen­eral result of democratization. Democracy enfranchises the poor, and the poor are able to use democracy to tilt economic institutions and the distribution of income in society in their favor [Li, Squire and Zou (1998), Rodrik (1999)].

The emergence of democracy in the nineteenth-century Europe therefore also illus­trates the workings of our theoretical framework. In particular, it shows how political institutions determine economic institutions and policies, and thus the distribution of resources, and it shows how political institutions change, especially in response to an imbalance of de facto political power, as a credible way of influencing the future allo­cation of de jure political power.

10.