Essays in Political Economy

Abstract

This dissertation presents three essays in Political Economy with different approaches, but a single line of inquiry: how can political institutions shape individual behaviors by modifying the incentives of political actors? Krugman and Wells (2005) defines economics as "the study of economies, at both the level of individuals and of society as a whole" and an economy as "a system for coordinating society's productive activities." Political Economy, in parallel, can be seen at the study of politics, at both the level of individuals and of institutions as a whole, where institutions are defined as systems to coordinate individuals' interactions. The two dimensions are important: although politics consists in decisions taken at the individual level, the outcomes are shaped by the institutional rules which thus partly determines those choices. The three chapters presented here consider particular cases of this interdependence between individual political actors and political institutions. Chapter 1 analyzes how the effective super-majority in the US Senate along with the role of parties as imperfect coordinators of politicians' actions affect the incentives of the centrist senators; and suggests in a stylized model that, counter-intuitively, a smaller minority might be more successful in its effort to fight the majority's priorities. Chapter 2 studies empirically how changes in a country's constitutional executive term limits affect the incentives of politicians and the consequences on a country's default probability by considering the effect those shocks have on the perception that international investors have of a country's financial soundness. Chapter 3 completes the parallel between the standard definition of Economics and Political Economy by investigating the understudied extension of markets for goods to markets for votes, and shows that the idiosyncratic characteristics of votes imply that a typical market performs badly in allocating the decision power to the parties valuing it the most. This dissertation not only tackles a series of problems in Political Economy, but also discusses and develops a wide range of methods which are available to understand those issues. Chapter 1 proposes a participation game model where a certain number of contributors are required to pay in order for a public good to be provided. The main theoretical contribution of this paper is to show that when the contribution cost falls in the number of ex-post contributors, not only individual participation is more likely when the required number of participants increases with the size of the group, but the provision probability increases too. On the contrary, this does not occur in a fixed cost model. One practical implication of the model suggests that if a party in the US Senate keeps its majority while losing seats at the center of the political spectrum, it might be more successful in overcoming a cloture vote without any change in policy ideology. This chapter then uses a laboratory experiment to test the model's predictions and underlines how, generally, simple experiments can guide theorists to first find identifiable, testable comparative statics predictions, and second, design experiments which would not be easily replicated in the field and provide clean identification. The experimental results also show the importance of using models with testable implications: although the theory's predictions on individual behavior are qualitatively borne out by the data, the quantitative deviations from standard "rational" behavior as expressed in game theoretical solution concepts differ across the set of parameters and generate aggregate outcomes which do not match the theory exactly. Optimization-based models with additional, behavioral elements, or models of bounded rationality which are discussed in part in that chapter should thus also be an integral part of political economy models: a general equilibrium model which answers its motivating question under the assumption of perfect rationality will only be of limited use if it is not robust to the individual deviations from this assumption that we observe in reality. Chapter 2, co-authored with Laurence Wilse-Samson, is an empirical study which uses an event-study methodology to uncover the impact of changes in a country's constitutional executive term limits on international investors' perception of that country's risk, by analyzing the evolution of bond market spreads around the time of those changes. It provides two main contributions, one methodological, and the other empirical.. The flourishing literature on institutions mainly considers the impact of institutions on low-frequency variables such as fiscal outcomes, while this study uses high-frequency financial data. The trade-off in these two approaches is informative. With high frequency data and using event-studies, the identification is clear: any movement in financial markets can be linked to the institutional change under investigation. However, failures of rational expectations means that this impact on expectations might differ from the effect on realized economic variables. This chapter thus emphasizes that while these two types of analyses are complementary, high-frequency analyses are underused. On the empirical side, the chapter considers the unresolved debate over the impact of term limits on fiscal outcomes, as underlined by contradictory results in the empirical literature. Moreover, theories developed on term limits also suggest ambiguous effects: for instance, do term limits prevent insiders from controlling the political process, or do they prevent elections from creating incentives for the executive to behave well? The chapter considers the movement of bond spreads around term-limits "shocks" and shows that although bond spreads fall after restrictions on term limits, there is no significant impact of extensions. Furthermore, it provides suggestive evidence that the impact of such shocks is larger in relatively weakly institutionalized countries, and that the separation of branches also matter to investors since restrictions implemented by the judiciary also generate strong movements. Finally, Chapter 3, co-authored with Alessandra Casella, is motivated by the simple question of whether in a committee of members belonging to two opposing parties and voting on a binary decision, markets, which have been thoroughly studied in economic theory and are considered to function quite well in allocating goods to the agents valuing them the most, can work in allocating votes and decision power in the same way. Generally, one question in thinking about voting mechanisms has been that formulated by Dahl (1956): "What if a minority prefers an alternative much more passionately than the majority prefers a contrary alternative? Does the majority principle still make sense?". A market for votes appears like an intuitive way to allow members of a committee to sell and buy votes using a numeraire, but this chapter shows that it is unable to do so in an efficient way and usually performs worse than majority voting, in particular in a large electorate. A market for votes indeed yields a competition between the higher-intensity member of each party irrespectively of the size of those parties, which generates a systematic bias in favor of the minority which will win too often. In particular, it is shown that for any party sizes, the probability of a minority victory converges to a half as the electorate becomes infinitely large. The model also emphasizes other inefficiencies: this institution implies intra-party trade and supermajorities. Importantly, the implications of the model have been tested in a laboratory experiment in a previous paper and are generally verified by the experimental results