Weingast B.R., Wittman D. The Oxford Handbook of Political Economy

Подождите немного. Документ загружается.

chapter 29

..............................................................

THE

NON-POLITICS OF

MONETARY POLICY

..............................................................

susanne lohmann

1 Introduction

.............................................................................

Two puzzles drive political economy. First, economic policy deviates hugely and sys-

tematically from the normative prescriptions of economic theory. Second, economic

performance changes over time and diﬀers across countries to a degree that eco-

nomic fundamentals cannot account for. The question is whether political factors—

collective action and political institutions—can explain the discrepancy between

policy and theory and the variations over time and across countries. Ultimately, the

purpose is to devise political institutions that will shape economic policy and improve

economic performance.

Macroeconomics and politics, or macro political economy, is the sub-ﬁeld of

political economy that is concerned speciﬁcally with monetary policy and monetary

institutions. In recent decades, economists and political scientists have theoretically

mapped out a range of issues such as the political vulnerability of monetary policy;

proposed institutional solutions; and demonstrated empirically that monetary insti-

tutions make a diﬀerence over time and across countries for monetary policy and

economic performance. In response to these ﬁndings, countries all over the world

have adopted independent central banks, or granted their pre-existing central banks

a higher degree of independence.

One indicator that the world has become a safer place, “monetarily speaking,” is the

fact that money and central banking have dropped oﬀ the domestic political agenda.

524 the non-politics of monetary policy

In the United States, Gallup regularly polls people on the question “What do you

think is the most important problem facing this country today?” Inﬂation was at the

top of the agenda in the two presidential campaigns that occurred in the immediate

aftermath of the two oil price shocks, Ford v. Carter in 1976 and Carter v. Reagan in

1980 (and it is not a coincidence that in both cases the incumbent lost the election:

inﬂation is not a vote-getter). Today, in 2005, inﬂation barely registers at all (only

about 1 per cent of the respondents classify it as the most important problem). People

do worry about some economic issues—unemployment and jobs (8 per cent), the

state of the economy (10 per cent), and the federal budget deﬁcit and federal debt

(3 per cent)—but they do not generally hold monetary policy responsible; they blame

globalization, or poor economic stewardship.

Meanwhile, people are preoccupied with non-economic issues such as war (25 per

cent), social security (12 per cent), terrorism (9 per cent), health care (9 per cent), and

education (6 per cent) (USA Today 2005).

Indeed, Thomas Frank’s What’s the Matter

with Kansas? (2004) suggests that Bush vs. Kerry in 2004 was decided by people’s

moral values rather than their economic interests. Voters who are concerned about

the morality of stem cell research, or the teaching of evolution in schools, will hardly

obsess about money and central banking (though if they start obsessing, it looks like

the gold standard could enjoy a comeback).

Americans have good reason not to be concerned about money and central

banking—for now. (The future is another matter, as I shall argue.) Inﬂation is low,

and has been for two decades; and output variability is down, arguably because the

conduct of monetary policy has improved. Certainly, ill-conceived monetary theories

and poorly devised monetary institutions no longer wreck the real economy the way

they used to in the nineteenth century, when the value of the dollar was tied to a ﬂaky

bimetallic (gold and silver) standard, or in the Great Depression, when the real-bills

doctrine required the central bank to slam on the brakes even as the economy was

collapsing.

If the domestic arena is at peace, “money wise,” the international arena is a diﬀerent

ball game altogether. After the two oil price shocks of the 1970s and the Mexican

crisis of 1984–5,the1990s brought a streak of international ﬁnancial crises—the

European Exchange Rate Mechanism crisis of 1992, the Mexican crisis of 1994–5,and

the Southeast Asian crisis of 1997–8, which in turn triggered the Russian crisis of 1998

and the Brazilian crisis of 1999.BarryEichengreen(2004) estimates that the typical

international ﬁnancial crisis claims 9 percentofthegrossdomesticproduct(GDP)of

the aﬄicted countries, and the worst crises wipe out as much as 20 per cent of GDP.

With globalization it is becoming ever harder to contain ﬁnancial turbulence neatly

within a single country or continent.

It is all the more astonishing, then, that money and central banking have

become non-issues in the international arena. The big themes are global climate

change; global public health, including the AIDS/HIV crisis; and war, including

¹ The poll responses date 7–15 Mar. 2005.

susanne lohmann 525

ethnic conﬂicts that spill across national boundaries. When Björn Lomborg, author

of The Skeptical Environmentalist (2001), convened a panel of leading economists

to set priorities among a range of ideas for improving the lives of people in

developing countries, the resulting Copenhagen Consensus, incredibly, was not

to include international ﬁnancial turbulence in the list of top priority concerns.

Upon closer inspection, it turns out that the panel chose not to assign any pri-

ority to the idea of combating international ﬁnancial turbulence not because they

deemed international ﬁnancial crises an unimportant problem, but because they felt

that the research base was lacking for the panel to make an informed judgement

(Economist 2000).

This pronouncement is as good an indicator as any that macro political economy is

dead. It is dead in part because it was a success story; precisely because macro political

economy made a diﬀerence in the world, political economists have moved on to the

Next Big Thing, which is comparative political economy, or the political economy of

development—its non-monetary aspects, that is. Macro political economy is dead

in other part because it is intellectually stagnant; political economists should be

developing the research base that would allow the world to combat international

ﬁnancial turbulence, and they aren’t.

And so this chapter consists, ﬁrst, of a eulogy for a dead sub-ﬁeld. What was

achieved, and what remains? I shall argue, second, that there is an urgent need for

macro political economy to rise from the dead. Macro political economy, with its

focus on game theory, is stuck with an impoverished understanding of political insti-

tutions. It must break out of its rut and develop a richer understanding that attends

to history and culture. It must create a research base to support the development of

monetary institutions that can address two looming challenges (there are surely more

than two, but I have only so much space).

One challenge consists of the demographic time bomb in the developed countries.

As the number of retirees balloons relative to the number of workers, monetary policy

will get sucked into an intergenerational distributional conﬂict. In a given year, the

working population produces a GDP pie, which gets split up between the working and

retired populations. The share of older people depends on their entitlements (social

security, state employee pensions, and the like). Monetary policy can, among other

things, aﬀect the real value of these entitlements, or the share of the GDP pie that

goes to older people: to the extent that the entitlements are denominated in nominal

currency and not indexed to inﬂation, they can be “inﬂated away.”

Another challenge consists of the high likelihood that an extreme unforeseeable

event will occur (the speciﬁc event is unforeseeble, but it is foreseeble that some

such event will occur). For example, if a highly lethal disease spreads quickly and

globally, much will depend on the intelligence of the monetary policy response—of

an internationally coordinated response, that is—to avert global economic meltdown.

To deal with these challenges, domestic monetary institutions, which for the most

part are in good working order, must be strengthened, and international monetary

institutions, which are in terrible shape, must be reconceived from scratch.

526 the non-politics of monetary policy

2 The Life Cycle of Social Choice,

Public Choice, and Political Economy

.............................................................................

The twenty-year life cycle of macro political economy in the scientiﬁc literature,

which describes the usual arc of vibrance and ossiﬁcation, is embedded in the longer

ﬁfty-year life cycle of social choice, public choice, and political economy. Let us review

the questions and answers that were bandied about in the longer life cycle, for these

shed light on the questions and answers that emerged in the shorter life cycle.

Social choice was research-active from the 1950sthroughthe1970s; public choice,

from the 1970sthroughthe1990s; political economy, from the 1980sthroughthe

2000s. Macro political economy emerged in the late 1980s, peaked in the mid-1990s,

and lost its mojo in the early 2000s. The deﬁnitive textbook for public choice, which

also covers social choice, is Dennis Mueller’s Public Choice III (2003).

The deﬁnitive

textbooks for political economy and macro political economy are Torsten Persson

and Guido Tabellini’s Political Economics (2000)andAllenDrazen’sPolitical Economy

in Macroeconomics (2000). In comparison to these surveys, mine is not meant to be

comprehensive, or balanced. My purpose is to illuminate the rise and fall of macro

political economy and to lay out what remains to be done—in my judgement.

The overall research program is to merge economics and politics. The idea is, on

the one hand, to apply the economics paradigm to the study of political phenomena.

Why would rational self-interested individuals participate in costly collective action?

The idea is, on the other hand, to account for political forces in models of economic

phenomena. Might politics explain why real-world tax schedules deviate from the

prescriptions of economic theory?

When social choice started out, the reigning practice in economics was to derive

normative statements about economic policy by maximizing a social welfare function

subject to a set of economic constraints. At the time, it was taken for granted that

the people’s preferences could be summarized by a social welfare function. Kenneth

Arrow (1951) demonstrated, to the contrary, that if people’s preferences are suﬃ-

ciently diverse, it is impossible to summarize their preferences with a social welfare

function that fulﬁlls plausible criteria such as independence of irrelevant alternatives.

(Independence of irrelevant alternatives means that the social preference over two

alternatives should not “ﬂip” if the individuals’ preferences over the two alternatives

stay the same even as a third—unrelated—alternative is added to, or dropped from,

the set of alternatives under consideration.)

Social welfare functions subsequently went out of fashion among economists, or

rather they snuck back in through the side door. In macroeconomics, the illegitimacy

of assuming a social welfare function was elegantly circumvented by assuming that

the economy could be summarized by a representative agent. Much of macro political

economy would stick with the representative-agent assumption (Rogoﬀ and Sibert

² Public Choice III is the third, and most comprehensive, edition of Public Choice,whichwas

published in 1979.

susanne lohmann 527

1988). The occasional model will nod to diversity, for example, by assuming that

two constituencies with diﬀerent utility functions are represented by two parties that

probabilistically succeed each other in power. Such minimal diversity can be neatly

aggregated into a social welfare function by the simple means of weighting the two

parties’ utility functions with the two parties’ election probabilities (Alesina 1987).

On a related note, social choice also demonstrated that voting rules aﬀect voting

outcomes. If people’s preferences are suﬃciently diverse, there exists no such thing as

a neutral voting rule that will “simply” aggregate people’s preferences. At ﬁrst blush,

this result seems rather worrisome because of its potential to undercut the legitimacy

of outcomes arrived at by democratic means. But we shall see how this insight would

get picked up productively—after all, if institutions can warp democratic decision-

making, they can also serve a corrective function.

Social choice consisted largely of mathematical exercises with little economic con-

tent. Public choice, in comparison, employed microeconomic theory, and it was

geared towards ﬁnding political explanations for the discrepancy between economic

theory and practice. Before public choice entered the fray, economists were in the

habit of spelling out what actions a benevolent dictator should take when he or she

(or should we say, it?) encounters market failure. Public choice theorists, most promi-

nently among them James Buchanan and Gordon Tullock, refused to see market

failure behind every bush; in their minds, government failure loomed large (Tullock,

Seldon, and Brady 2002).

These contrary approaches are nicely illustrated with reference to the income tax.

Traditional public ﬁnance theory oﬀered a model in which a benevolent dictator

chooses a progressive income tax schedule that trades oﬀ the gains to social welfare

that come with taxing the rich and distributing the proceeds to the poor against the

deadweight losses that arise because taxes distort the economic choices of rich and

poor (Atkinson and Stiglitz 1980). In contrast, public choice demonstrated that re-

election-motivated policy-makers will devise an income tax schedule that is riddled

with loopholes beneﬁting special interests, with the result that a nominally progres-

sive income tax can end up being regressive in eﬀect, and grossly ineﬃcient to boot.

Public choice also proposed institutional solutions to government failure. The

typical proposal sought to tie the hands of elected policy-makers and to create

transparency vis-à-vis voters or other audiences. The ﬂat tax is a case in point (Hall

and Rabushka 1995). It forgoes the beneﬁts of progressivity and eﬃciency, but it

also prevents policy-makers from piling on loopholes that beneﬁt special interests

precisely because voters, or other audiences, can easily monitor slippages and make

a public fuss. The simplicity and transparency of the ﬂat tax create a political cost of

defecting from it.

Advanced democracies with complex economies have been reluctant to implement

the institutional proposals coming out of public choice theory, perhaps because the

proposals are seen as too crude; or might it be because they are inconveniently

incorruptible? Interestingly, in the aftermath of the breakdown of Communism and

³ See, for example, Hettich and Winer 1998.

528 the non-politics of monetary policy

the resulting democratic chaos, if you want to call it that, we ﬁnd ﬂat tax experiments

going on in eastern European countries. When government failure is the dominant

problem, rather than market failure, then simplicity and transparency are the way

to go.

In the political spectrum of the United States, the ﬂat tax proposal can be found on

the right, as can other simple and transparent institutions, such as the gold standard.

Public choice is occasionally written oﬀ as a right-wing enterprise (Lowi 1992). But it

is worthwhile appreciating public choice for driving home this important point: when

we compare ﬂexible and complex institutions to simple and transparent institutions,

we must take into account their relative political corruptibility.

What exactly does political corruptibility mean? Public choice spelled out how the

policy process is warped by collective action and political institutions. For example,

if small groups have an easier time solving the free-rider problem of collective action

than do large groups, then policy will be biased in favor of special interests (Olson

1965). The power of special interests is also the result of congressional committees

being captured by “high demanders,” that is, members of Congress who represent

constituencies (voters and campaign contributors) with a high demand for certain

kinds of government handouts (Shepsle and Weingast 1987).

Where public choice applied microeconomic theory (“the supply and demand of

collective action”), political economy made use of game theory (“greed, rationality,

equilibrium”). The result was a higher standard of spelling out the rationality of

political actors, including their informational states, and of making sure that all of

their strategies and beliefs are consistent with each other so that the strategies and

beliefs constitute an equilibrium.

For example, the story that policy-makers pander to special interests at the expense

of voters does not necessarily make sense if voters follow a voting strategy by which

they vote for the incumbent when they are well oﬀ and for the challenger when

they are hurting. To make this story ﬂy, one has to specify how a policy-maker can

increase her re-election chances by taking something of value from the large mass of

voters, losing a little of bit of it along the way (this is the deadweight loss created by

redistribution, which generally distorts people’s economic choices), and giving the

remainder to special interests: why wouldn’t the policy-maker lose more votes among

the large mass of voters than she would gain among the special interests (Lohmann

1998a)? And if special interests are powerful because of campaign contributions, why

wouldn’t voters reject a policy-maker who is loaded with campaign contributions

given that campaign contributions are a sign that the policy-maker is pandering to

special interests at their expense? In the same vein, if special interest handouts are the

result of high demanders hogging congressional committees, why would a majority in

Congress go along with bills that beneﬁt the constituents of the committee members

at the expense of the majority’s constituents? And why does a congressional majority

allow high demanders to self-select on to congressional committees in the ﬁrst place?

Political economy also diﬀered from public choice by taking a balanced view

of market and government failure, and it consequently was able to shake oﬀ the

right-wing image of public choice. For example, when economic markets fail to

susanne lohmann 529

aggregate distributed information about the mapping of economic policy into pol-

icy outcomes, then special interests or high demanders on congressional commit-

tees may well supply the requisite information, with the result that the quality of

economic policy improves (because policy-makers are well informed) even though

policy outcomes are biased (because policy-makers pander to special interests or

high demanders) (Gilligan and Krehbiel 1987; Lohmann 1995). The implication is

that we should not automatically assume that special interests and high demanders

on congressional committees are a Bad Thing; we need to consider the workings of

the economic and political system as a whole, in which case a Political Bad might

cancel out an Economic Bad, and the net eﬀect is a Good Thing. Because political

economy traded oﬀ the gains and losses of imperfect markets and imperfect politics,

it came up with more complex and more ﬂexible institutions, compared to public

choice.

To see how traditional economics, public choice, and political economy relate to

each other, imagine a 2 × 2 matrix with two sides labeled “market failure yes/no”

and “government failure yes/no,” respectively. Traditional economics would inhabit

the box “market failure yes, government failure no,” public choice, the box “market

failure no, government failure yes,” and political economy, the box “market failure

yes, government failure yes.”Thereisoneboxleft,“marketfailureno, government

failure no,” and inevitably it, too, came to be ﬁlled.

Donald Wittman, in “Why democracies produce eﬃcient results” (1989), proposed

that political markets, just like economic markets, tend to yield eﬃcient outcomes.

there is an externality, or some other source of potential market failure, the system of

political and economic actors will endogeneously adjust in the direction of solving the

problem. Indeed, the Coase theorem implies that in the absence of transaction costs,

the problem will be solved in full. For example, if the underlying problem in the

political market consists of an information asymmetry, then information providers

will have an incentive to enter the political market, and voters will have incentives to

take information cues from them (Lupia 1994).

Buried here is an important point. Ever since the Coase theorem hit the books, we

no longer assume automatically that economic actors are frozen in place in the face

of externalities or other market failures, and in this regard we should treat political

and economic actors symmetrically. That said, Wittman’s argument ultimately did

not prevail, perhaps because the persistence of both market failure and government

failure is rather too obvious to be brushed oﬀ with reference to the Coase theorem.

Wittman’s argument was an intellectual exercise, and as such inﬂuential, for it forced

political economists to reﬁne their arguments as to exactly why failures, market or

government, persist in the presence of rationality and equilibrium.

In the mid-1990s, behavioral and experimental economics relaxed the assumptions

of greed and rationality (less so the assumption of equilibrium), thereby undercut-

ting the political economy program of producing ever more reﬁned rationality-and-

equilibrium explanations of market-cum-government failure. Today, the extreme

⁴ See also Wittman 1995.

530 the non-politics of monetary policy

application of the game theory paradigm to political phenomena is passé. The cutting

edge lies in employing richer models of human behavior to understand the various

forms of collective action we observe in reality, that is, in laboratory experiments and

in the ﬁeld.

Even as the one kind of political economy (the kind that applies game theory to

political phenomena) is mired in a crisis, another kind of political economy (the kind

that inserts politics into models of economic policy) has been busy expanding into

comparative political economy, or the political economy of development. Whereas

public choice was largely focused on the developed countries, or the rich capitalist

democracies, political economy increasingly included the developing countries, many

of which were governed (some still are) by tin-pot dictators, military cliques, and the

like. Whereas public choice was concerned about the discrepancy between economic

theory and practice in developed democracies, comparative political economy fretted

over the disparities in economic performance across countries and sought to explain

how some countries grew rich (why these countries, why now?) even as others remain

poor (Landes 1998).

The diﬀerences are enormous—levels of per capita GDP in the richest and poorest

countries diﬀer by a factor of about ﬁfty (Central Intelligence Agency 2004). The rich

have become rich only in the last two centuries; for most of human history, they were

about as poor as the poorest countries are today (DeLong 1998). What happened?

One answer is collective action and political institutions.

Thepeopleofwestern

Europe were lifted up by collective action (I have in mind the Glorious, Scientiﬁc,

and French Revolutions) and political institutions (foremost among them limited and

representative government), and they got rich. Countries that emulated the political

and economic institutions of western Europe got rich, too.

Comparative political economists who pushed this story, or variants of it, naturally

appreciated the fact that well-functioning market economies rely on well-functioning

governments, just as they naturally appreciated that government in the developed

countries is functioning extremely well, in both historical and cross-country com-

parison. Such appreciation is a 180-degree reversal of the anti-government bias that

permeatedthepublicchoiceprogram.

Thanks to the scholarship in public choice and political economy, our under-

standing of collective action and political institutions is light years ahead of where

it was half a century ago. There is some question, however, whether internal scientiﬁc

progress (improved understanding) has translated into external scientiﬁc progress

(improved practice).

Take the developed countries. Germany, one of the richest countries in the world,

suﬀers under a Reformstau (special interest gridlock), as does California, one of the

richest states in the United States. In both cases, the underlying political logic is

perfectly well understood, and yet nothing, apparently, can be done about it (Olson

1982; Lohmann 2003a).

⁵ The question of what happened is a matter of great controversy among economists and historians.

The contrary positions are represented by the Economist 1999 and Stokes 2001.

susanne lohmann 531

Government spending continues to be loaded with special interest pork. For ex-

ample, in response to 11 September, Congress appropriated huge amounts of money

to homeland security, and then promptly distributed the money according to the

principles of pork-barrel politics. Thus, states get money not based on risk and vul-

nerability considerations, but based on population and state minimums. Wyoming,

which is hardly in the sights of worldwide terrorist networks, gets seven times as many

homeland security dollars, on a per capita basis, than does New York. Once again,

the political logic is perfectly well understood, even the subject of a New York Times

editorial, and yet nothing, apparently, can be done about it (New York Times 2005).

Let us continue with the 11 September theme and take a look at Joe Barton, who

in 2005 chaired the House Energy and Commerce Committee. He used his clout to

block chemical plant security legislation. Chemical plants are vulnerable to terrorist

attacks. Two of the most dangerous facilities are located in Dallas, right next to

Barton’s district. They constitute a risk for more than one million people. A Texas

Republican, Barton sides with the energy industry at the expense of his constituents—

and forget about the constituents of his colleagues in Congress. Barton is the classical

“high demander” on a congressional committee: before he was elected to Congress,

he served as a consultant for an oil and gas company, and he has received more than

$1.8 million in campaign contributions from the energy and chemical industries.

Once again, the political logic is perfectly well understood, even the subject of a New

Yo rk Tim es editorial, and yet nothing, apparently, can be done about it (Cohen 2005).

Looking back, one cannot help wondering whether public choice, with its insis-

tence on simple and transparent institutions that might actually help slay the special

interest dragon, had something important going on that got lost when political econ-

omy insisted on deriving ever more elaborate “optimal” institutions in a reductionist

framework including hyper-rationality and equilibrium-über-Alles.

Next, take the developing countries. Today, in 2005, China stands out as the

country with the largest population, ahead of India, and the second-largest economy,

after the United States. In the last twenty-ﬁve years, after the Communist leadership

embarked on a course of economic liberalization, China’s real GDP increased close to

eightfold, its real GDP per capita close to sixfold. This increase, with its speed and size,

along with the huge number of people involved, has got to count as the single largest

explosion in standards of living in human history. Several hundred million people

were lifted out of the poverty of living on (the purchasing-power-parity equivalent

of) one dollar a day, and some got very rich.

The nagging question is why China has outperformed India, which—in contrast

to China—is a democracy. But if India is politically liberal, economically it is not; or

rather, it was not until recently when it, too, caught the economic liberalization bug,

no doubt in response to China’s glowing success. After independence in 1947, India

pursued policies that reﬂected a philosophy of government planning and economic

self-suﬃciency. Its economy was relatively stagnant until piecemeal economic reforms

in the 1980s and some measure of economic liberalization in the 1990simproved

economic growth rates. Today, in the 2000s, India appears poised for a take-oﬀ that

might well end up outperforming China’s.