Matteo Marcantognini Prsntcn Rent Seeking

Matteo Marcantognini Palacios

MFIESA2009

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“Olson’s Collective Action Problem” 1965-1982

Propositions: „Profitable rent seeking is most likely in industries with a high degree of concentration and almost

impossible among consumer groups‟

„The typical constrained maximization approach requires both an objective (in this case, social welfare)and a constraint (here, the capacity of society to produce goods and services from which its citizensderive benefits)‟

„Interest Groups in individual rational pursuit of their own interest can in effect throttle the system,reducing its vitality and restricting the menu of social choice of everyone else‟

„The universal pursuit of political advantage leads to such perverse results as import quotas, fuelallocations, legalized monopolies, licenses, and fixed prices, all of which are designed to redistributerents from unorganized groups (consumer and taxpayers) to organized groups‟

Predictions and Prescriptions: „Not only powerful interest groups organize but such organization retards economic growth‟ and „their

self interests are inimical to the public and general good‟

„The better a polity performs its task of representing the economic interests of organized groups, theworse it may be at managing its economy‟

Make the public aware of ill effects from interests and rent seeking and restore free markets

Critiques: „A difficulty of the whole approach is Olson‟s treatment of rent seeking as a pure demand phenomenon,

leaving out the powerful role of the government‟

„North issues a challenge to develop a theory of the state in which the state is accorded a preeminentrole‟


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Olson’s Model of Welfare Losses

Intuitive Analysis The two axes represent the utility of two

groups A and B

PP represents the productionpossibilities curve

II represents the social indifferencecurve

The initial optimal and efficientcondition is the social choicerepresented by point g

If other interest group C is able to reacha rent transfer harming groups A and B,their utilities will be diminished in amagnitude that exceeds the gain to C

It results in a lower productionpossibilities curve P’P’ and a lowersocial indifference curve I’I’ implying anew Pareto Optimality condition ofsocial choice represented by point g’

There has been a welfare loss affectingthe entire society: voters (consumers)and interest groups (producers)


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“The Chicago Model: Stigler, Posner, Barro, Peltzman”

1962-1976Propositions:

„Government is the supplier of regulatory services and the regulated industry itself is the source

of demand for regulation, not the public interest ‟

„In exchange, the regulated industry can offer legislators campaign contributions, votes of

employees and can promise highly remunerative employment to the regulators‟

„The source of the principal-agent model conflict rests solely on the divergence of utility incomes

arising from overproduction of government services and paid for by taxes on all citizens‟

„The major political problem for regulators is to design “efficient” regulation‟

Predictions and Prescriptions:

„The question this theory suggests is how to design institutions to arrest or at least control the

tendency of regulation to grow solely for the mutual benefit of regulator and regulated‟

„The goal is to prevent legislators from succumbing to the blandishments of interest groups for

personal monetary gain‟

„Regulators must respond to demands of consumers as well as the regulated‟

Critiques:

„The theory cannot predict precisely which industries will be regulated, does not explain

deregulation, and its chief predictions are either tautological or are not borne out empirically‟

„The theory asserts a strangely passive pattern of behavior by regulatory agencies in the face of

significant opportunities to do better‟


MFIESA2009

The Chicago Model: Vote Maximization

and Government Choices

Intuitive Analysis

M1, M2 and M3 are the „isovote‟ curves (M1

represents more votes than M2, and so on)

PP is the potential profit curve, the

function that represents the rent interest

of industries

Combination T is chosen by a vote

maximizing regulator, with observed price

P2 between monopoly price P* and the

efficient price P1

If the industry improves its costs there

may be a shift in the potential profit curve

to P’P’ that should lead regulators to select

combination K, associated with the lower

and efficient price P1, a Pareto superior

move since consumers pay lower prices,

the industry obtains higher profits, and

the regulators gain more support from

each group than would be obtained at T


MFIESA2009

“Interest Groups and Rent Seeking: The Virginians” Buchanan, Tullock, Krueger, Tollison, McCormick, Shuggart, Crain, Anderson, 1962-1988

Propositions: „Interest Group Theory of Government and The Demand and Supply of Wealth Transfers:

government output and growth are driven by the benefits and costs that citizens confront in using themachinery of government to increase their wealth‟

„Rent seeking is for individuals a highly rational and predictable political choice‟

„Rent seeking is usually defined as the political activity of individuals and groups who devote scarceresources to the pursuit of monopoly rights granted by governments‟

„The basic propositions of rent-seeking theory are (1) that the expenditure of resources to gain atransfer is itself a social cost and that (2) the resulting market privileges or rents represent a loss onconsumers and taxpayers‟

Predictions and Prescriptions: „The intensity with which rents are sought by citizens or officials depends on the size of the rents and

the number of prospective competitors‟

Political efficiency and economic efficiency are much more likely to conflict rather than coincide: self-regarding activities of special groups generally cannot be balanced by encouraging more to beorganized worsening rather than improving the situation

„The only means to reduce wasteful rent seeking is to deny government actors the capacity to createrents in the first place through constitutional prescriptions‟

Critiques: „Orthodox advocates of “interest group liberalism” have argued that valuable information services

provided by interest groups outweigh their significant distortions of the market and continuedexploitation of consumer and taxpayer‟

„According to them, the formation of interest organizations is merely the most efficient means ofensuring that all voices are heard‟


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“Rent and Rent Seeking: A Virginian Primer”

Intuitive Analysis

Propositions of rent-seeking theory are

succinctly depicted by this figure

derived from Harberger, where triangle

ABC constitutes the social welfare loss

while the box PmPcAB describes the

magnitude of the transfer of wealth

from the consumers to the rent seeker

Gordon Tullock considers that the latter

rectangle constitutes a waste so that the

total loss to society is the entire

trapezoid

These losses exceed the gains that might

have been obtained by the rent seekers


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“The Budgetary Vote Calculus”

Intuitive Analysis

The goal is to balance votes won for

each dollar spent against votes to be lost

by new taxation and regulation

In Panel A the marginal vote gains from

two different expenditures EA˂EB must

be equal and the dotted horizontal line

represents the equality MVGA=MVGB of

vote gain of the two budgetary functions

Similar logic is depicted in Panel B, with

taxes TA˂TB and the marginal votes lost

MVLA = MVLB

If the budget (E*A+E*

B) = (T*A+T*

B)

remains balanced, MVG* = MVL*

This is very different, however, from

saying E*A= T*

A and E*B = T*

B

While relatively little empirical work

has been done to test this basic vote

calculus, observed behavior appears

consistent with this analysis


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“Politics of Welfare Improvements”

Intuitive Analysis

Suppose two parties are on the frontier

at P, a Pareto optimal position

Then suppose that B is able to have a

rent-creating proposal (tax exemption)

enacted that increases B‟s income while

reducing that of A by a still larger

amount

If A can also obtain rent legislation

(subsidy), it is possible that a new

distribution will occur at E

If so, it is now possible for A and B to

improve their respective incomes by

agreeing to remove their sources of

unequal gain and make a Pareto move

back to P

Both B and E are inferior positions

because they enable both to be better off

on or near the frontier


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“ Graphics of Income Tax Reform”

Intuitive Analysis The demand for tax privileges is

assumed to be fixed and described bycurve DD, while the supply offered bylegislators is determined by statute

Before a tax reform act, S1 the amountof privileges is extremely generous butinelastic

In order to change the quantitysupplied, it is necessary to pass a wholenew regime to shift the supply curve leftto S2

This reduction in privileges increasestheir political value at the margin,resulting in intensified lobbying andleading to a slow shift of the supplycurve back toward S1

Political “rent races” can be reduced infrequency and magnitude once werecognize the role of government as theconstitutional supplier of rents


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“Chicago (Reprise): Variations on the Theme” 1978-1985

Propositions: „Becker‟s model relies on the tools of general equilibrium and the real insight is that self interest

dictates inefficiency and that waste cannot be an equilibrium phenomenon in the market with orwithout government intervention‟

„The Becker model is further constrained by the important assumption that rent seeking isconducted under zero-sum conditions…: expenditures must be balanced by tax revenues‟

„Groups that are more efficient, relative to other groups, are able to reduce their taxes or raisetheir subsidies… in such a manner that increases in deadweight costs may result‟

„Important Inequality: the larger the deadweight/efficiency loss of a proposal, the more loserslose compared to what gainers gain‟

Predictions and Prescriptions: „In the limit (and in analogy with Coase Theorem) if organization and transaction costs are zero,

only efficient policies will be enacted because politics that decrease inefficient rents will bepolitically popular‟

„Competitive process among pressure groups favors efficient methods of taxation‟ and„inducement to organize is a form of “countervailing power” that limits the power of pressuregroups‟

„The greater the number of interest groups, and the more balanced the competition among them,the more efficient are political outcomes‟

Critiques: Virginians reject the most important result in Becker‟s analysis even if it is better able to explain

the movement toward deregulation

The view that pressure groups maximize members‟ income is rejected by political scientists


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“Lobbying: Group Reaction Curves and Equilibrium”

Intuitive Analysis

The political pressure exerted by each

group is represented by an influence

function that depends on the number of

members and total political expenditures

The rent contest is a Cournot-Nash game,

where each group takes as given the

political efforts of other groups

MM’ is the reaction function of

manufactures and FF’ is the one of farmers

Farmers employ lobbying resources L0f in

order to increase tariffs

Then manufacturers respond by choosing

point P0 on their reaction curve and

increase their lobbying to L1m

This induces farmers to increase their

effort to L1f and so on

A stable equilibrium at P* is the final result

and the only position at which the groups

actions are consistent with each other


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“Interest Groups in Equilibrium Models of the Policy Process”

Uri Ben-Zion et al (1974-75): Positive model of interest group influence on a

legislator‟s policy platform; there is a conflict between serving one‟s

geographic constituency for votes and serving interest groups in exchange for

money needed to campaign and win those votes; the additional electoral

return from more funds is precisely offset by the electoral loss of votes

Denzau and Munger (1986): An institutional approach where, (1) interest

groups have less impact on issues where voters are well informed; (2)

legislators choose committee assignments based on constituents‟ interest in

that committee‟s jurisdiction; (3) committees possess monopoly proposal and

gate-keeping power over legislation in the Congress

Austen-Smith (1987): The most advanced research that pursues the modeling

of political agents and presents a truly formal equilibrium treatment of

legislators and interest groups in a democratic setting; voter preferences

influence the effective capacity of interests to exert political pressure; voters

perceive candidates only imperfectly, thus, campaign funds are used to

clarify and reinforce the candidate‟s message, and candidates compete with

respect to their abilities firmly to establish their positions in voters‟mind


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Conclusions: Strengths and Weaknesses of the

economic approach to the study of interest groups

The strengths of the economic approach are its ability to provide us with

considerable insight into the process of group formation and maintenance

The economic approach provides predictions about what are the likely

outcomes of democratic politics, and how groups shape the process

Groups are collections of individuals, who join and participate (or free ride)

for individual reasons

We cannot treat groups as organic entities, and any theory whose normative

implications rest on such an assumption (as the pluralists did) must be

critically reexamined

Regarding the weaknesses of the economic approach, these models are

abstract and formal, they may well leave out components of group formation,

goal setting, and maintenance that are not mere details but are integral parts

of the political process


MFIESA2009

Matteo Marcantognini Prsntcn Rent Seeking

Technology

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