How to Enrich the Classical Conception of Economic Policy As a Discipline

In this section we deal with three essential ingredients neces­sary to enrich economic policy as a discipline along the lines indicated in the previous analysis. The first such ingredient refers to the reliability of analytical propositions.

The three subsections of this section deal, respectively, with these three ingredients. The resulting implications for institutions are drawn in Section 6.5.

6.4.1 More Realistic Assumptions for Effective

Policy Action

The need for more realistic assumptions about policymaking in order to improve guidance for persons charged with policy responsibilities has recently been reaffirmed by Duflo (2017). Realism refers to the need to avoid scanty propositions derived from drastic analytical assumptions and too narrow empirical analyses; incorporating analysis of the implied

institutions; making clear the political targets to pursue and distinguishing the consequences of the various instruments on each of them.

The first point has to do with the frequent case where policy prescriptions are derived from very ‘heroic’ and par­tial theoretical assumptions or are backed by limited or lack­ing empirical checking. This happened with the theory of ‘expansionary austerity’ mentioned in Section 3.8., but there have been a number of other similar cases.

In addition, the political targets to pursue must be indi­cated. For example, one can judge abatement of the interest rate in the United Kingdom after the results of the referen­dum on Brexit only when the targets pursued by monetary authorities have been clarified. The action by the Bank of England in 2016 was criticised on the ground that it could damage protecting savings, but the bank’s governor, Mark Carney, clarified that the goal was instead to protect employ­ment. Similarly, when the Bundesbank authorities protest the near-ZLB interest rates introduced by the ECB as dama­ging bankers and German savers, they seem to forget that two other targets have been pursued by the ECB through its pol­icy of low interest rates: saving the euro and providing an incentive for recovery. The impossibility of using expansion­ary fiscal policy, due to the SGP and the ‘fiscal compact', compelled the ECB to try to substitute it in the role of pushing the European economy towards recovery.

6.4.2 Incorporating Political Economy Concepts

The theory of economic policy being traditionally part of the discipline of economic policy is normative. It prescribes the course of action to be taken by policymakers trying to pursue their goals, someway derived from the preferences of their constituency. This theory, while a benchmark for policy action, does not always (or often) take account of socio­political relations and interests, including those leading to government failures. Incorporating these in workable ana­lyses of policy actions (needed in particular for applications) implies a number of logical or realistic difficulties and addi­tions or changes that are the object of ‘political economy'.

To be sure, this term has been used with different mean­ings. In the first contributions to economic science, from Smith to Marx and Mill, ‘political economy' implied atten­tion to the social and political issues underlying the eco­nomic process. Later, it has meant study of the interrelationships between economics and politics. There are two basic orientations:

1. That of the mainstream literature, going under the names of political economics or political economy, which we can group together (also by using the terms interchangeably), even if some authors conceive the content and methodology of each as competitive (see e.g. Persson and Tabellini 2000; Mueller 2003); it applies analytical economics to the political issues of a market system;

2. That of radical political economy, which expresses a methodological attitude contrary to mainstream economics.^[122]

We deal with these two trends in the order, describing their content and methodology.

As Glaeser (2005: 2) puts it, ‘the insight that economics impacts politics as much as politics impacts economics lies at the heart of political economy'. A number of fields have been affected by political economics.

A recent line of analysis tends to clarify the means whereby a politician or the government in charge can pursue election or reelection.

A more general analytical issue explored by political eco­nomics is the explanation of the preferences of voters and the results of elections, as well as the divergences between real policy actions and the social optimum deriving from specific incentive-constraints of policymakers. We begin with these divergences. They can be due to political oppor­tunism or ideology, political competition between candi­dates with differentiated identity or between government parties (divided government), pressure from interest groups (with the related theory of group formation) and lobbying, voting behaviour, political accountability, non-democratic politics and models of bureaucracy. An enquiry reported by Graziano (2001) referring to the United States has noted a prevalence of profit-sector groups interested in public policy, especially on issues related to the economy, with respect to non-profit groups and citizen groups. Public­interest groups - i.e. groups that do not serve the exclusive interests of their members such as environmentalists, pacif­ists and consumers - are numerous but represent the weak link of the relation between communities and policy autho­rities. Limits to the action of these groups derive from underrepresentation of minorities, such as African Americans, as well as excessive workload, low pay and little social recognition of people working for these groups, which creates frustration and finally leads them to leave the groups (Graziano 2001).

Grossman and Helpman (2001) have devoted an entire book to the issue of vested interests, dealing not only with the political interests of candidates, partisanship, lobbies and campaign contributions, competition for influencing politicians and legislatures but also with ways to increase communication and educate voters. One of their most impor­tant conclusions is that lobbies can add cheap or costly information (the former by speaking to politicians or their staff, the latter by advertising campaigns or similar initiatives influencing the politicians and the public). The influence on politicians depends on the credibility of the information. Politicians will ‘accept at face value only those assertions that a lobbyist has reason to make truthfully; otherwise, they discount the claims appropriately in recognition of the (interest) group's bias' (Grossman and Helpman 2001: 23). Lobbyists are credible to politicians having preferences suf­ficiently similar to theirs or if information can be easily verified or, paradoxically, if it is costly. Grossman and Helpman (2005), instead, deal with ‘pork barrel' as a motiva­tion for ignoring electoral promises by parties.^[123]

Most works on vested interests refer to the American case. An important result of empirical research in the United States is that apart from the stricter attitude towards lobbyists of Democrats with respect to Republicans, overall, both representatives and senators are lenient towards them. In fact, they are against further restrictions to lobbyists as unfair or unconstitutional and think that lobbying practices are not abusive (Graziano 2001). The case of Europe also has been the object of analysis (e.g. Bouwen 2002; Coen and Richardson 2009). More recently, a number of other impor­tant contributions have been added. Kluver (2013) has inquired not only about isolated interest groups' activity but also about their coalitions, reaching optimistic conclu­sions about the relevance of business interests and public pressures on EU decisions, with no systematic bias in favour of the former, a result shared by Dur, Bernhagen and Marshall (2015).

Some studies depart from the main current of the literature that depicts lobbying as a distortion of politics. Hall and Deardorff (2006) model lobbying not as vote buying or per­suasion but as a type of legislative subsidy in terms of policy information, political intelligence and legislative labour. However, results from empirical analyses indicate that infor­mation is mainly a tactic for getting access to decision­makers, in particular, with reference to both the United States and the European Union (e.g. respectively for the two, Hrebenar and Morgan 2009 and Chalmers 2013).

11

Berry (2015), instead, inquires about lobbying in favour of common people. As mentioned earlier, this tends to protect the environment or other public interests such as creating open and accountable government, promoting equal rights and opportunities and making people's voices heard in the political process.

The opportunism of policymakers has negative conse­quences in macroeconomic terms, as it generates excess expenditure, debt accumulation and tax distortions. Inefficiencies arise at the level of the system, contrary to what should happen if the Coase theorem could be extended to politics, since inefficiencies serve the interests of politicians and social groups holding political power (Acemoglu 2003).

At a normative level, proper institutions and a constitu­tional design based on rules rather than policymakers' discretionary conduct are suggested to ensure accountabil­ity and commitment of policymakers and reduce the above­mentioned divergences between public and private inter­ests. For reasons of space, we cannot deal with any of them here, even if in general these suggestions can enrich both pillars of economic policy in their practical applications. In fact, on the one hand, they influence procedures for the election of politicians and the relationships between dif­ferent levels of government; on the other, they can impose limits to the government policy or at least influence it. However, we must note that certain specific conclusions of this strand of literature have been rejected by our analy­sis in previous chapters or appear as problematic in the light of our theory, such as in the case of the supposed superiority of rules in order to limit the inefficient conduct of policymakers. In other cases, however, political econ­omy contributions do really enrich the theory we have developed so far.

Another important issue examined by the political econ­omy literature is the preferences of governments having dif­ferent political orientations. The current political debate holds that left-wing governments are less fiscally responsi­ble, Recent empirical analyses have disproved this belief and have shown that left-wing governments give rise to lower public debt accumulation than right-wing ones (Muller, Storesletten and Zilibotti 2016).

As discussed earlier, the second analytical trend under the name of radical political economy is based on a critique of the capitalist system. It intends to combine economic analy­sis with political activism in an attempt to practically gain better standards of life for individuals and communities. In some cases, the conclusions of this strand of analysis do not lead to significant practical applications, and the critical aspects of the existing order prevail over constructive sug­gestions of institutional reforms and political changes. Other works are, instead, more constructive and useful.

We will enrich our analysis of the previous chapters with political economy considerations of both lines of research. In the next subsection as well as in Chapter 7 we will refer to institutions inherited from history - notably, democracy - and analyse the possibility to change or amend them as well as current policies in such a way as to increase their effec­tiveness. To accomplish this task, we exploit political econ­omy considerations in a manner that highlights obstacles to the implementation of economic policy as we have devel­oped it in previous chapters. However, we must make it clear that our value premise is that the capitalist system can be reformed in a way to better satisfy citizens' interest, at least in its present stage. We are conscious that this is not an easy task, as there are powerful vested interests acting against reforms. The potential to overcome these interests largely depends on the existence of a democratic government, which is the object of the next subsection. Obviously enough, this government should first remove the determinants of ‘distorted’ voter preferences. The possibility of success of this action much depends on reduction of the inequalities that feed the action of lobbyists. It also depends on the edu­cation of citizens and the emergence of new ideas about fading outdated theories that still have an influence on cur­rent conduct (Keynes 1936: 383).

6.4.3 The Political Issues of a Democratic Government

A number of issues arise when one wants to ensure a democratic government. The very idea of democracy should indeed be critically discussed. As Graham (1986: 1) puts it, ‘[c]rudely speaking, up to the eighteenth century everyone had a clear idea what democracy was and hardly anyone was in favour of it. Now the position is reversed. Everyone is in favour of it but no one has a clear idea any longer what it is.’

In our context, two critical issues need deeper analysis. They are strictly intertwined, and both pertain to the first pillar of the core but also have implications for the second pillar. The first issue has to do with the logical (and proce­dural) possibility of finding a government’s maximand repre­senting the citizen’s - usually conflicting - preferences. The second refers to the possibility that in practice the various interests in the society and the government are com­posed in a non-conflicting way, enabling us to reach that maximand or to get close to it. Democracy should ensure this. We accept the idea that people can pursue goals con­cerning not their strict interests but other people’s as an effect of ‘sympathy’ (in Sen’s (1977) words). More difficult is adhering to the idea that other people’s interests can be imposed on some agent, who should be committed to pursue them and really does so. In this case, the agent will always try to pursue his or her personal goals, to the detriment of others’, thus disobeying or eluding commitment (Sen 1987), unless he or she tacitly accepts other people's goal as his or her own, as in the case of group behaviour (Cudd 2014). When conflicts cannot be resolved, either non-democratic governance or separation of conflicting parts takes place. In the former case, only some people's interests are satisfied, whereas in the latter, all of them tend to be, at least in principle, satisfied by each separate community. However, as we will see, to some extent, separation can be avoided by adopting suitable procedural rules.

In the remaining part of this subsection we deal with the influence of inequalities on the construction of a democratic order. In Chapter 7 we investigate the issues that arise in an attempt to resolve conflicts among the various sections of a community.

There can be obstacles in ensuring representation of all citizens' preferences in a democratic society, the first such obstacle being inequalities among citizens. According to some, this would not be a problem in a democratic setting, since rising inequalities should lead the median voter to vote in favour of redistribution, which would re-establish equal­ity (Meltzer and Richard 1981; Bolton and Roland 1997). This outcome could, however, be hindered by a number of factors. These range from the impact of redistribution on labour supply, deadweight losses, low turnout of the poor or impediments to their voting - e.g. for immigrants - ideo­logical orientation and ethnic differences. Finally, as we know from the preceding subsection, the rich can introduce a bias in the orientation of the popular vote. In fact, they can impose their interests and visions via lobbying, campaign contributions and other more or less acceptable ways (Benabou 2000; McCarty, Poole and Rosenthal 2006; Bonica et al. 2013). In general, uneven distribution enables the rich to push for economic and political institutions that are favourable to maintaining inequality (Acemoglu, Johnson and Robinson 2005). However, in practice, the issue is even more complex, as a more intricate pattern of the initial

Enrich the Classical Conception of Economic Policy 291 distribution determines the outcome for institutions and post-voting inequality. In fact, post-tax inequality is higher if the gap between the middle class and the poor is small and when land inequality is high (Acemoglu et al. 2015).

Some authors minimise the democratic failures that could be introduced in the ‘political market' as an effect of unequal distribution of income and wealth (e.g. Wittman 1995). By contrast, Louis Brandeis, US Supreme Court judge in the first half of the last century, is reported by Gilens (2012) as saying that wealth concentration and democracy are two conflicting situations. There is indeed empirical evidence in favour of this position. Marshall and Jaggers (2000) show that 95 per cent of the more equal countries in terms of Gini indices can be classified as democracies, whereas only 75 per cent of the less equal societies can be considered as democracies.

However, this relation between democracy and distribu­tion should be considered in deeper detail, which we can do if we do not just look at the surface of people's apparent preferences but also take account of the forces modelling them. Gilens (2012: 2) finds that policy actions in the United States correspond to the preferences of the society but are strongly tilted towards the most affluent citizens, especially when opinions differ. In general, the preferences of the majority of Americans do seem to have no influence on policy decisions, at least for those having a strong impact on distributive issues. Gradstein (2007) finds that in cases of very unequal distribution, the rich do not relinquish their power in favour of a democratic setting. In other cases, they prefer to exert their influence for building a democratic society on the presumption that this will ensure protection of their property rights in the future. The uneven responsive­ness of political representatives and citizens' preferences has also been revealed in the case of Europe, differing, however, in intensity over the different countries (see Lefkofridi, Giger and Kissau 2012 and other papers published in the same

issue of the journal^[124]). These authors also find that there is poor knowledge about the mechanism by which economic and social inequalities transfer into uneven political representation and political inequalities because the preferences of some groups are systematically neglected by the political elites.

At least a part of this mechanism is explained by Przeworski (2006: 316) in convincing terms. In a democracy, starting from some assumptions, one can say that ‘the result of the election is accepted by everyone... if [it]... leaves both the poor and the wealthy at least as well off as they expect to be were they to seek to establish their respective dictatorships’. The underlying assumptions ‘imply that when a country is poor, either the electoral winner or the loser may opt for dictatorship, while when a country is wealthy, the winner pushes the loser to indifference, but not further’. This could explain why a negative correlation can be found between inequality and democracy and justify Przeworski’s words (2006: 313) when he says that ‘if the degree of income redistribution is insufficient for the poor or excessive for the wealthy, they may turn against democ­racy’. This implies, on the one hand, that in less developed contries there is no room for redistribution and also that ‘the probability that a democracy survives rises steeply in per capita income’ (Przeworski 2006: 316). However, redistribu­tion can never be too large because not only the rich have powerful tools to ensure this outcome but also the size of redistribution must leave the incentive for the rich to live in a democratic setting, also hoping that this will ensure protec­tion of their property rights in the future.

This reasoning might be thought as drawing unwarranted conclusions from a simple correlation, but in addition to the theoretical motivations offered by Przeworski, there are his­torical analyses showing that the direction of causality should run from inequality to the degree of democratic gov­ernment. In fact, from a comparative investigation on the American colonies, Engerman and Sokoloff (2002) found historical evidence that more initial inequality tended to deter democracy.

As a manner of conclusion, we can say that economic inequalities are likely to be the most important obstacle to democratic representation and non-conflicting harmonisa­tion of interests, more important than divisions of race, reli­gion and the like. This validates Graham's (1986) and Arblaster's (2002) idea that in order to implement the basic idea of democracy as self-rule, the role of both political liberty and equality should be emphasised.

6.4