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The Political Cost of Reforms

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  • Bonfiglioli, Alessandra
  • Gancia, Gino A

Abstract

This paper formalizes in a fully-rational model the popular idea that politicians perceive an electoral cost in adopting costly reforms with future benefits and reconciles it with the evidence that reformist governments are not punished by voters. To do so, it proposes a model of elections where political ability is ex-ante unknown and investment in reforms is unobservable. On the one hand, elections improve accountability and allow to keep well-performing incumbents. On the other, politicians make too little reforms in an attempt to signal high ability and increase their reappointment probability. Although in a rational expectation equilibrium voters cannot be fooled and hence reelection does not depend on reforms, the strategy of underinvesting in reforms is nonetheless sustained by out-of-equilibrium beliefs. Contrary to the conventional wisdom, uncertainty makes reforms more politically viable and may, under some conditions, increase social welfare. The model is then used to study how political rewards can be set so as to maximize social welfare and the desirability of imposing a one-term limit to governments. The predictions of this theory are consistent with a number of empirical regularities on the determinants of reforms and reelection. They are also consistent with a new stylized fact documented in this paper: economic uncertainty is associated to more reforms in a panel of 20 OECD countries.

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Paper provided by C.E.P.R. Discussion Papers in its series CEPR Discussion Papers with number 8421.

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Date of creation: Jun 2011
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Handle: RePEc:cpr:ceprdp:8421

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Keywords: Asymmetric Information; Elections; Reforms; Uncertainty;

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References

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Cited by:
  1. Ghatak, Maitreesh & Aney, Madhav S & Morelli, Massimo, 2013. "Can Market Failure Cause Political Failure?," CAGE Online Working Paper Series 122, Competitive Advantage in the Global Economy (CAGE).
  2. Alessandra Bonfiglioli & Gino Gancia, 2012. "Growth, Selection and Appropriate Contracts," Working Papers 566, Barcelona Graduate School of Economics.
  3. Giacomo A. M. Ponzetto & Ugo Troiano, 2012. "Social capital, government expenditures, and growth," Economics Working Papers 1307, Department of Economics and Business, Universitat Pompeu Fabra, revised Feb 2014.
  4. Ghatak, Maitreesh & Mitra, Sandip & Mookherjee, Dilip & Nath, Anusha, 2013. "Land Acquisition and Compensation in Singur: What Really Happened?," CAGE Online Working Paper Series 121, Competitive Advantage in the Global Economy (CAGE).

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