Role of Government in Economic Policy

7/24/2019 Role of Government in Economic Policy

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Governments Role in

Economy

Basic Concepts


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Government

organizations of individuals

particular set of institutions and people

authorized by formal documents legally empowered

mae binding decisions on behalf of a

particular community e!ternally" war# trade# border control# $$$

internally" ta!# education# health# welfare# $$$


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Good Governance

Rule of law government can tae no action that has not been

authorized by law

citizens can be punished only for actions thatviolate an e!isting law

%roperty rights

Regulatory regime &acroeconomic policies

'bsence of corruption


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Governments %ower

%ower

ability to get people or groups to do what they

otherwise would not do

Governments power

to develop institutions

to carry out policies

sometimes unpopular

has to be sufficiently strong


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Governments %ower

sufficient power

constrained power

&adison" oblige the government to controlitself

restraints to chec arbitrary and corrupt

behavior by the government (ey" building effective political institutions


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%olitical )nstitutions

*rganizations# individuals# and agencies

Electoral rules

single+member district and first+past+the+post proportional representation system

Constitutional rules

division and limit of power between branches of government

between central and local governments


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%olitical )nstitutions

Constrain arbitrary e!ercise of power by

politicians and bureaucrats

delineate property rights between state and

private sector

enforce property rights

influence competition in political process

hold public officials accountable for theiractions


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Economic %olicy *utcomes


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Economic %olicy *utcomes

%olitical institutions play important role

Resolve redistribution conflict from

economy policies

,hree e!amples of policy choices

budget deficit

financial maret

trade policy


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Budget -eficit

-ifference between revenue and

e!penditure

Government influence on budget

muster political support for ta!ation

resist demands for e!pansion of spending

%olitical institutions of budget procedures balanced budget rules

power of finance ministry


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Balanced Budget 'mendment

.ever passed /$0$ Congress


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Balanced budget rules in /$0$

'll /$0$ states but 1ermont have

constitutional 2345 or legal 265 re7uirement

for balanced budget

Gramlich 24889"46:5 holds that all real+world

balanced budget amendments have

significant enforcement problems

even with the ;trics


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Balanced budget rules

are more liely to be effective if

voluntarily adopted

impose hard constraints

difficult to reverse

effectively enforced by

a credible third party or

higher level government


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)nfluence of Electoral Rules

&inority 2coalition5 governments tend to

have higher budget deficit than ma=ority

government

0tates with systems of proportional

representation tend to have higher budget

deficit than states with ma=oritarian

systems$

Budget deficit tends to rise in election year


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>inancial maret regulation

)nfluence of political institutions

independent financial regulatory agencies

central ban independence

checs and balances in political process

'mong developing countries# central ban

independence doesnt seem to affect

inflation outcomes


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)nternational trade liberalization

Governments trade policy influenced by

domestic political conflict between gainers

and losers from trade liberalization

)ndustries that tend to have tariff protection

industries in decline

industries that are highly unionized

mae substantial campaign contributions

more geographically dispersed


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Corruption

E!ercise of public power for private gain

has large costs for economic development

undermines well+functioning marets a ta! that distorts competition ? lower returns

a barrier to new entries in maret competition

subvert states legitimacy weaens state capacity to provide institutions

to support marets


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Causes of corruption

-istorted policy environment 2opportunity5

@ea =udiciary 2credible threat to punish5

%oor civil service management Aow public sector pay 2not evident5

*ther factors

*penness to international trade Comple!ity of regulatory environment

igh and variable inflation


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%olitical institutions

%olitical institutions can help reduce the

opportunities and incentives for corruption

Restrain politicians from arbitrary actions

old politicians accountable for their action

-ecentralization

Electoral rules

%ress freedom

Civil society


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,a!ation institutions ? policies

,a! provides the state with resources to

build maret+supporting institutions

@ea ta! collection institutions lead to

disproportionate reliance on ta! revenue

from more visible and easier sources

international trade

large firms


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,a! collection institutions

%oor countries tend to have weaer ta!

administration ? higher reliance on tariffs


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Conclusions

%olitical institutions matter

Good governance is essential to economic

development

Effective 0tate

plays a catalytic# facilitating role

encourage and complement the activities ofprivate businesses and individuals

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Role of Government in Economic Policy

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