ECON 378

Public Policy and Public Choice

 

Sources:  "The Public Choice Revolution" by Gwartney and Wagner (in Public Choice Economics, ed. by Heckelman), The Myth of the Rational Voter by Bryan Caplan and other sources.

 

Basically when doing public policy you are advising the state on how it should conduct its activities.  As an economist, you need to be able to explain the responses of market participants to those activities (at least the ones that are predictable).  This is basically what you are doing in your public policy analysis - explaining the outcomes of your policy (or what you think they are) because of how people will respond to the policy.

 

The traditional approach to public economics is what is called public finance:

 

 

PUBLIC FINANCE (traditionally):  It studies individual behavior in the private realm of his or her activity.  

 

EXAMPLES:

 

The government extends a subway in one direction when it could have extended it in another direction – this will increase land value in some places – which will lead to people buying property in different locations than they otherwise would have.

 

Or the government increases its taxes on alcohol and tobacco (or marijuana), while increasing personal exemptions under its income tax to try to keep revenues approximately constant.  It would be reasonable for the economist to expect cross-border shopping, smuggling, etc.

 

 

But the newer approach to public decision making is called public choice analysis:

 

PUBLIC CHOICE:  Examines individual behavior in the public realm of activity or the study of individual participation in collective decision-making.  So the choice is one of using income for private or public uses.  The individual is in the role of voter, activist, taxpayer, beneficiary. 

 

Or – the individual could even enter the process itself and be a politician or bureaucrat.

 

Here, economists explain the origins of fiscal activities and explain a government’s pattern of taxing and spending.

 

EXAMPLES: 

 

The subway line didn’t extend itself, but was extended through some process of choice or interaction among some portion of the citizenry. 

 

The higher taxes on alcohol and tobacco (or marijuana), as well as the increase in the personal exemption, didn’t just happen, but happened because some person or persons made them happen.

 

You might use both types of analysis in your paper -- public finance as well as public choice.

 

Purposeful Human Action

    Remember:  public choice economists assume that everyone, even those participating in the political process, act purposefully - in their own self interest.  This does not deny the existence of benevolence, but only to note that benevolence provides an inadequate basis for social organization - it doesn't explain very much!  It also does not deny that politicians have ideology and that their ideology sometimes directs their actions.  But these actions are often limited by the political process. 

Example:  The requirements of electoral competition present even the most "public-spirited" or "benevolent" politician with a strong incentive to base decisions primarily on political considerations - meaning he must "search for votes."  "Just as neglect of economic profit is the route to market oblivion, so is neglect of potential votes the route to political oblivion!"

 

Also - voters will act in their self interest.  They will ask (regarding the politician), "What can you do for me and how much will it cost me?"  They will vote for those who they believe will provide them with the most political goods, services, and transfer benefits net of personal costs.  Of course sometimes those benefits and costs are perceived but not real.

 

So public choice economists ask: How does self-interest in the political process affect policy outcomes?

Who are the relevant actors in the political policy process and what are their motivations?  You will need to delve into this in order to understand who will benefit and who will lose from the public policy you are analyzing.

  

The actors:  voters, lobbyists, PACs (political action committees - a private group organized to elect political candidates), politicians and bureaucrats.

 

The politicians are the decision-makers, they are influenced by the interests of various groups in the population expressed through voting and lobbying.  Bureaucrats are the administrators and managers who implement the decisions made by politicians.

 

In the 1950s and 1960s - most economists treated government as a "corrective device available to right the economic wrongs" of the world.

 

Economists were seen as those who developed solutions, which in turn were adopted by government to promote the general welfare.

 

But there were some economists who recognized that the real world was very different from this classroom vision of the government.

 

 

In reality - governments not only failed generally to adopt solutions of economists, but often intervened in ways that promoted economic inefficiency - clashing sharply with what economists thought were good policies.

 

Examples:  Most economists opposed tariffs, minimum wage laws, rent control, agricultural price supports, etc. -- and yet all of these policies exist.

 

    Can you think of others?

 

 

 

So some economists started asking "why do governments adopt these policies that promote economic inefficiency" -- or promote policies that actually harm the very people they are supposed to be helping?

 

 

Public Choice analysis provides the answer.  "Government is not a corrective device....  Government is not a person, it has no mind or conscience.  It is simply a set of processes by which people relate to one another.  Governmental decisions and policies are simply the outcomes of the interactions of people who relate to one another through a particular political system or constitutional order." (Gwartney and Wagner)

 

 

So we need to systematically analyze how the political process works if we are going to understand why we get the outcomes that we get.

 

Again, just as we study markets - an important implication of public choice economics is that political outcomes will depend importantly on how political institutions and constitutional rules influence the incentives people face and not just on who in particular is elected or appointed to political office.

 

Rules - Incentives - Knowledge - Actions - Outcomes!!

 

 

 

So basically public choice analysis "assumes (an assumption also held by the Founders of the American constitutional order) that a properly functioning political order depends not on the generosity or the self-denying capacities of those who engage in political activity, but on the presence of a well-constructed constitutional order that channels the pursuit of self-interest into generally desirable directions." (Gwartney and Wagner)

 

Example:  When the people who pay for a public sector project are the same as those who desire or benefit from the project, democratic political processes generally work quite well.  If a project generates more value than it costs, most citizens affected by the project are likely to gain, provided that taxpayers and beneficiaries are the same people.  And vice versa -- if the project is a loser, then it won't pass - vote-seeing politicians won't have an incentive to pass such projects.

 

 

 

So a general principle emerges (that we will discuss in more detail later):  so long as government acts in a non-discriminatory manner, thereby avoiding "the violence of faction," the individual pursuit of self-interest within political processes will tend to be harmonious with the general or common welfare (of course defined as individual welfare of all).

 

So how would you define the "the violence of faction"?

 

 

However, and unfortunately -- that is not often the case!  Also something the Founders (and Alexis de Tocqueville) understood -

 

"democratic political processes can, both through their police powers and their budgetary powers, become an instrument of discrimination that accommodates the plunder of some for the benefit of others." (Alexis de Tocqueville)

 

 

See if there is "the violence of faction" related to your policy.  Discuss why it is happening.  Would your policy or the change you are asking for increase the violence of faction or decrease it? 

 

 

So let's look at some simple Public Choice theories that relate to the Problems with Democracy (generally)

 

Rent Seeking:

 

 

This is where we will study one of the major sub-sets of public choice theory that is known as "rent-seeking" - an examination of the various ways by which government can serve as an "instrument of discrimination and plunder" (we will have a more precise definition later).

 

Rather than applying resources to the creation of wealth, rent-seeking uses resources to redistribute previously created wealth!

 

Wealth creation:  Making the pie larger.

 

 

Rent Seeking:  Redistributing the pie.

 

 

 

The incentive to engage in rent-seeking is directly proportional to the ease with which the political process can be used to transfer income and modify existing property rights.  When government becomes more involved in transfer activities and when it fails to link its expenditures with taxes, the payoff to rent-seeking expands and rent-seeking attracts resources away from socially productive activities.

 

    Who would engage in rent seeking to support your policy?  to disagree with your policy?  why?  Will your policy or your change in existing policy lead to more or less rent seeking?  Explain.

 

Resources that otherwise would have increased the size of the pie (by the way, pie = wealth, anything people value) - will be used for rent-seeking instead.

 

The employment of lobbyists, "expert" witnesses, lawyers, accountants, and other political specialists capable of influencing public policy and /or the size of one's tax bill will increase.  By contrast, engineers, architects, physical scientists, craft workers, machine operators and other workers that actually create goods and services will decline as a share of the labor force.

 

Has rent-seeking increased?

 

 

According to the Center for Responsive Politics by 2013, the number was 11,935 - an increase of about 83.6% between 1983 and 2013.

 

Here is a shorter time frame:

 

http://www.opensecrets.org/lobby/

 

 

Rational Ignorance:

 

Another problem is the "rational ignorance effect" ( Anthony Downs):

 

This is why voters are likely to be poorly informed.

 

 

 

Another theory (somewhat related but actually provides another explanation for voter behavior that might lead to "bad outcomes") says that it is not just that special interests are harming democracy - but that people, in general, vote for "bad" policies because they truly believe that they are good ones (Bryan Caplan).

 

This is what Caplan calls, "rational irrationality." 

 

His argument is that people vote for things because they really don't understand the outcomes of what they are voting for.  They believe in "myths" -- a lot of times which back up their political ideology (and who wants to go against their political ideology)? 

 

 

 

Sources of the problems with Democracy

 

The theory of public choice recognizes that problems in democracy arise of of some institutional features that distinguish political processes from market processes.  These features lead to:

 

 

 

 

The first arises out of a disconnect between benefits and costs of individual voters (the violence of faction).  If I can get you to pay for my goodie - then I will be more involved in the process!

 

This is where you should look at special interest groups and legislation (or concentrated benefits with costs spread widely among voters).

 

    What special interest groups are involved with  your policy?  If you are looking at an existing policy, can it be called a special interest legislation?

 

 

Why do politicians pay more attention to special interest groups?     

 

 

 

Afterall it does lend itself to politicians being short-sighted and also a lot of economic inefficiency.

 

 

 

Examples:  tariffs and quotas on steel, automobiles, textiles, and several other products.  Regulations mandating that Alaskan oil be transported by the high cost American maritime industry reflect the industry's political clout, not its economic efficiency.  Acreage restrictions and price supports on feed grains, tobacco, and peanuts.  Federally funded irrigation projects, subsidizing grazing lands, subsidized loans (including student loans!), subsidies to airports -- and the list goes on and on.

 

 

Shortsightedness is also promoted with this system because what happens prior to the next election is of crucial importance to the incumbent politicians.  Since issues of public policy are complex, most voters will simply vote based upon what is happening (the economic conditions) on election day.

 

So shortsighted policies are adopted instead of sound long-range policies.

 

Unlike their market counterparts, who can borrow against anticipated future benefits to stay in business now, politicians have limited ability to capture prospective future benefits from wise decisions.  As a result, politicians tend to exaggerate the importance of policy impacts prior to the next election and to discount excessively their post-election consequences.

 

This shortsightedness often leads to a conflict between good politics and sound economics!

 

Examples:  Monetary policy - financing government by increasing the money supply can (sometimes) stimulate employment and output in the short-run, even with inflation, uncertainty, and instability as side effects.  Borrowing to finance short-term projects - long term effects can be higher interest rates, less capital formation, and higher future taxes.

 

    Is your policy short-sighted?  Explain.

 

 

Bureaus perform the day to day functions of government.   There are several reasons why it is extremely difficult for a legislative body to control the cost effectiveness of a bureau and promote operational efficiency (esp. if the bureau is a monopoly supplier - like the Post Office).

 

One main reason:  bureaus do not have an easily identifiable bottom line analogous to the net income of a private firm, that might be used to judge the bureau's performance. 

 

    Is your policy (or will it be) carried out by a government bureau?  If so, what problems might you foresee because of that?

 

 

Constitutional Implications of Public Choice

 

Both bad news and good news flow from public choice analysis:

 

The bad news:  unconstrained democratic government is far from being a corrective device, and is rather itself a major source of economic waste and inefficiency.

 

 

 

Sound economics must be comparative economics - we must compare viable alternatives - not something to a made-up perfect world.

 

Compare different institutional frameworks (that is, different policies, rules).  Not one framework against a perfect world scenario.

 

 

 

 

The good news:  if the rules of politics are structured property, which is a task for constitutional construction, many of the adverse consequences of the political process can be limited.  Public choice theory provides insights into how this might be accomplished - that is how political institutions and rules can be designed in a manner which will direct the self-interest of political players to the furtherance of the general welfare.

 

According to Gwartney and Wagner - what would a political structure designed to bring the self-interest of political players into harmony with the betterment of the general citizens look like?  There are three components (this is according to these economists):

 

 

 

 

These are just some examples. 

 

But the bottom line for public choice analysis is - unless we get the rules right -- we will continue to have special interest legislation, bureaucratic inefficiency, and the waste of rent-seeking!

 

 

    So when analyzing your policy -- make sure you keep these things in mind!!

 

 

DO ICE