Political power and the credibility of government debt
type: Item
instance of: scholarly article
title: Political power and the credibility of government debt
zbMATH Open document ID: 0971.91054
author: Avinash Dixit
author: John Londregan
published in: Journal of Economic Theory
publication date: 2001-10-26T00:00:00Z
review text: If political power and motives to invest in goverment bonds are positively correlated across voting groups, then a self-selection equilibrimum can arise where the goverment's promise to repay its debt is credible. The paper contains a model to illustrate the working of such an equilibrium. There are two periods. At the start of the first period, individuals arrive with different endowments of wealth and intelligence. Each individual divides his wealth between holding government bonds and acquiring an education. The proceeds of the bonds are used to construct public infrastructure capital. Each person's education generates private human capital in proportion to his intelligence. During the second period, an election is held, where two parties compete via promises over the rates at which they will tax labor income and redeem bonds. This is done taking the first-period investment decisions as given. Also in this period, individuals supply physical labor which, together with their previously created human capital and the public infrastructure capital supplied by the government, produces an output. This accrues to the individuals as their gross pretax income. Here a model of investment in public infrastructure is presented in which a welfare maximizing social planner would encounter a time consistency problem, thwarting his efforts at implementing a socially optimal level of public investment. However, the decision how faithfully the government should honor its obligations comes as the result of electoral competition between two political parties, a level of commitment is restored. Political parties are credibly committed to pursue voters, and under some circumstances this means redeeming bonds in order to curry favor with electorally pivotal ``swing voters''. The model indicates that this political motive is sufficient to support investment in the public infrastructure when the ``natural'' bondholders, those with more capital than they can profitably plow back into thei…
Mathematics Subject Classification ID: 91B72
Mathematics Subject Classification ID: 91F10
zbMATH DE Number: 1545238
zbMATH Keywords: political solution
zbMATH Keywords: endogenous self-selection
zbMATH Keywords: equilibrim
zbMATH Keywords: production function
reviewed by: Fatima T. Adylova
MaRDI profile type: Publication
full work available at URL: jeth.2000.2684
OpenAlex ID: W2004718916
cites work: Ideology, Tactics, and Efficiency in Redistributive Politics
DOI: 10.1006/JETH.2000.2684
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description: scientific article; zbMATH DE number 1545238