An Economic Analysis of Democracy
In a free market system people take decisions on the basis of cost-benefit analysis. Any such decision means, on the one hand, making a choice between existing alternatives and, on the other, yielding one thing in order to get something else of higher value. Consequently, price is important information for any customer, enabling him/her to compare various goods and services and create a personal scale of preferences. In other words, demand on a free market is that quantity of goods and services that a customer wants to purchase at a certain price. The sum of individual demands creates market demand. This is a form of public demand, which includes that group of people who express a willingness to purchase a certain amount of goods and services at a market price established by an "invisible hand." Resources are primarily obtained by those who can offer the higher price, i.e. those who can make a big sacrifice for an expected higher benefit. It is well known that the free market system is not a flawless mechanism. It has a whole set of shortcomings, with external effects and public benefit being particularly noteworthy. For a number of reasons, therefore, it is desirable that certain types of resources be redistributed by the public sector and not the free market. The democratic system is believed to be the best model to ensure this process. In the previous article (What Do We Want, Expect and Demand? An Economic Analysis of Democracy - Part 1, published in Tabula English Issue # 39) we tried to explain how collective decisions are taken in a democratic society. The aim of this article is to substantiate the fact that once individual preferences are aggregated into the principle of the majority, the process of the creation of demand in the public sector cannot ensure a solution to those problems related to so-called free market failures.
On the political market, the demand for public goods is determined by voters. In this regard, the votes needed for the majority are ensured by voters with medial, not radical, preferences. For example, consider a situation in which three people in a society are set to determine the issue of financing education. One person is loyal to market principles and radically opposes state intervention. Another voter is a clear socialist and believes that the state must invest the largest possible resources in education. The decisive voice in this scenario thus belongs to the third voter and depends on his/her preferences. If the third voter supports capitalism more than socialism, state participation in financing education will be limited and vice versa. It does not matter how many people comprise a society. This model applies to any number of voters. The larger the share of median voters in the total number of voters, the higher the demand on medial public goods. This is exactly how the majority, which enjoys the right of the decisive voice, is created. Based on this logic, the chance for politicians who pursue radical opinions to win elections is thin; therefore, in the majority of cases, those forces that come to power are generally either left or right leaning. Leftist governments win more often because the large army of median voters includes a number of so-called free riders who demand a continuous increase in free goods from the government, hoping that the corresponding cost of those goods will be paid by others instead of themselves. An interesting phenomenon regularly observed in democracies is a political system that rests on the principle of bipartisanship, although no limitation on the number of political parties exists. The figure "two" is the natural equilibrium for political parties. In a situation whereby, for example, two parties – one leftist and one rightist – are fighting to win the hearts of median voters and a third party, resting on either of these two ideologies, emerges, this third party will only have the chance of winning elections if it becomes united with a party of similar values (setting up a coalition); otherwise, one of the parties with a similar platform will have to exit the political field of battle.
Thus, even with the assumption that the principle of the majority ensures presenting the common requirements of voters, taking a common decision differs from a decision made by a separate individual. A common decision implies that which expresses the desires of the majority of people. When individuals make decisions in a free market, they get what they want and pay for that with their own incomes. When voters cast their ballots for a political party, however, their choice does not include everything that they want to have. For example, a voter might want roads to be under public ownership, but education to be under private ownership. However, he/she is forced to vote for the political candidate who views both roads and higher education as public goods because the candidate takes into account the median voter, whose vote is decisive in the process of forming a majority. Thus, the principle of the majority rests on the model of the median voter. This model is not, however, ideal; it cannot change the free market because the above mentioned opinions will probably fail to improve market shortcomings. But even given the assumption that this model is universal, it remains purely theoretical and is unrealizable in practice. In reality, the median voter does not have the decisive vote in making a common decision for a number of reasons. In particular:
The Cyclical majority. Let's discuss a case whereby a voter makes a choice between more than two public goods. Imagine that out of three voters, the preferred priorities of the first are A, B and C. Those of the second voter are B, A and C, whilst those of the third are C, A and B. The first and second voters agree on B (a medial result), whereas the second and the third agree on A. Consequently, the median voter does not have a decisive vote in this situation, because the first and the third voters both agree on C, which means that a right-leaning person may choose a leftist political party and vice versa. Thus, a so-called cyclical majority emerges which results in a political party being elected that does not correspond to the generalized requirements of the majority. For example, in 1976, Ronald Reagan was demanding that the US Republican Party nominate him as their presidential candidate because he believed he could defeat Jimmy Carter. But Ronald Reagan lost the primaries to the then incumbent President Gerald Ford who, for his part, lost the elections to Jimmy Carter. In 1980, however, Ronal Reagan defeated Jimmy Carter. Thus, Reagan lost to Ford, Ford lost to Carter, and Carter lost to Reagan. Right-wing voters were more inclined towards Ford than Reagan, but Regan was voted for by a segment of left-wing voters too. Naturally, a lot of things happened within the time span between 1976 and 1980. Reagan could have also failed to defeat Carter in 1976, just like Ford could have defeated Carter in 1980, but the aim of this example is to show that the primaries may affect the main result only in cases when individual preferences are of a cyclical nature. This is the essence of the principle of the majority. This is how demand in the public sector is created in democratic societies, which does not imply that this demand in any case corresponds to the main choice of the majority of society. Even in a case when an election is won by a party bearing values different from those of its predecessor, political decisions are stable and less susceptible to change. As a rule, in a free market a large number of firms regularly leave the market, in contrast to a political market where government programs are almost never abolished.
Information and initiative. We come to face a more serious problem when we demand that voters be politically active and informed. In reality, a certain segment of people are indeed motivated to obtain detailed information about certain political programs, but the absolute majority of society lacks such interest. The result is that those who have a higher degree of interest in, and information about, concrete issues are more capable of influencing those issues. In general, voters are not willing to obtain more information about political processes because the vote of just one person cannot affect the result of elections; much like the expectation is low that someone will take into account the opinion of just one person. Therefore, a voter rationally ignores the majority of political issues. Every voter can cast his/her ballot for a candidate, but not every voter uses that possibility. Public policy is not created by voters, but by those who are elected by the majority of society. Citizens have the right to meet with their electees and offer them various initiatives because they represent political customers. However, the majority of citizens do not participate in the law-making process. Elected representatives assume the obligation to take into account the opinions of voters, but they are more obliged to those who have invested resources in support of their own special interests and the corresponding parts of legislation.
The model of the median voter describes the process of creating demand for public policy by means of elections in general, but public policy is created within the sphere of legislation, which represents the political market. Thus, in order to have a good understanding of what demand for public policy is, we must study those forces that create demand on such a market. In this regard, it is clear that society, in its entirety, is less willing to receive information about political programs. Voters are only interested when political decisions affect their special interests. Furthermore, voters with special interests lobby for or against certain laws more actively than the average voter. Here too we are dealing with the problem of the free rider. Even though every person is aware of the basic features of a political platform, many are not interested in the specific details of the program (for example, at what expense various services can be received for free). Thousands of people may share the main features of this or that political platform, but since the vote of one voter cannot affect the result of an election, this voter entrusts his/her ballot to another voter, hoping that they will make a decision desirable for the first one. Consequently, the average voter is not interested in gaining insight in detail.
In contrast, those who are expecting a concrete benefit have special interests towards specific political programs. For example, average voters might not have any information as to whether a winning political party intends to subsidize grape farmers. However, it is very unlikely that grape farmers would not to be aware of that point. The thing is that a program that envisages giving millions of lari to farmers will ultimately cost all voters an insignificant amount, which will have to be paid in the form of additional taxes. Even if a voter shows interest and learns about the details of the program, it is unlikely that he/she will make an attempt to change the political decision because, even if we assume that he/she could succeed in that, he/she will only save an insignificant amount of their own money. Is this worth the effort? Grape farmers, however, will definitely analyze the results of subsidies on the market because an insignificant amount collected from every citizen will result in millions of lari for their sector. Thus, an interested party will participate in the elections and will also readily bankroll the corresponding political campaign. Consequently, a group of people who have special interests rationally ignore the bulk of the political program, but provide maximum support to a political candidate if part of his/her political program meets that special interest. Hence, political programs are more tailored towards the specific interests of a group of persons than they are oriented on meeting the demand for public goods of the average voter. Thus, on the political market, the political support of small lobbying groups may have greater influence on the political outcome. This means that the model of the median voter does not work, because, regardless of politicians directing their policies towards the median voter, the rational neglect of political issues affects the choice of the median voter.
Demand for short-term results. When the economic growth rate is high, voters give credit to the government, regardless of whether or not the government elected in the period of the economic boom deserves that. In contrast, during a period of recession, the government is blamed for bad results, regardless of whether the recession was caused by that government. For example, although the Great Depression started well before the election of Herbert Hoover, it was blamed on the Hoover administration. Thus, a policy oriented on creating a short-term illusory economic boom by means of fiscal and monetary instruments has nothing to do with the common, long-term interests of society. Consequently, politicians are oriented on short-term effects, regardless of whatever is in the long-term public interest of the average voter.
By assuming that the free market does not ensure a rational redistribution of resources against external effects, public goods and/or monopolies – because people act to meet their own, and not public, interests – the democratic process of public sector management shows multiple shortcomings that make it impossible to determine what creates public demand for public goods. Even more, lots of problems emerge that suggest it is better to leave a maximally limited amount of public goods to the political market. It is desirable that the majority of such products are created on a free market, regardless of whether this system is ideal.