No Free Lunch: Economics for a Fallen World: Third Edition, Revised

Chapter Fourteen: Decision-making in Democracy: Public Choice 328 output (gross domestic product, GDP), we must understand how choices are made in a political economy, which includes both public and private sectors. Whatever you think of the government’s role in the economy, we must recognize that there is one thing the government does very well: it is able to significantly alter the incentive structure that market participants face. Government actions tend to guide economic activity via incentives. These incentives include tax policies, government purchases, and government approval/disapproval of economic activity. For example, would you work if the government taxed you at 100% of your earnings? Probably not; no one wants to work for Uncle Sam for free. Likewise, you will hopefully not decide to go into the cocaine production facility industry since the government makes that activity illegal (and the product is generally not conducive to honoring Christ!). If you are a car manufacturer, you may also increase production of electric vehicles in response to significant tax breaks that allow you to write off much of your research and development costs. When the government takes 50% of the national output, it doesn’t just send bureaucrats and politicians off to the Caribbean on vacation —those resources are used in a wide variety of ways to influence our behavior, all by changing our incentives. Remember the 2nd Law of Economics—incentives matter! BUY MY VOTE PLEASE… To understand how public decision-making works, we first need to understand the relevant actors. Let’s first consider the voters/citizenry. Just like politicians, voters act in their own self-interest. When a person makes a market purchase, he or she evaluates the opportunity cost of the monetary price (what he could alternatively buy with the money he will spend) and compares that cost with the benefit of the purchase (the marginal utility provided by that purchase). If the benefit exceeds the cost, it is in his self-interest to make the purchase. A voter’s behavior is really not much different than this. Voters have to make a political transaction just like a market transaction; when they cast their vote, they weigh the opportunity costs (candidates forgone) against the benefits of each candidate. Each individual voter will have his or her own calculus and preferences of how he or she would evaluate the cost/benefit of each candidate. The candidate’s policy positions, physical attractiveness, race, cool (or hip) factor, etcetera all may be part of the voter’s calculation. We have no way of assessing what their preferences are; we can only say they will vote according to their perceived best interest as they themselves define it. Figure 14.1, Government Spending as % of Gross Domestic Product. The federal government has exerted more and more influence on overall spending in the economy over time. In the nineteenth century (data not shown), the federal government’s share of spending was much lower, with most government spending at the state and local levels. That pattern is now reversed. Data Source: FRED http://research.stlouisfed.org/fred2/ Spending % of GDP State & Local Federal 45 1947 1957 1967 1977 1987 1997 2007 2010 40 35 30 25 20 15 10 5 0