Modeling Politics with Economics tools: A Critical Survey of the Literature

Abstract

The views expressed in this Working Paper are those of the author(s) and do not necessarily represent those of the IMF or IMP policy. Working Papers describe research in DrOl!TeSS bV the author(s) and are Dublished to elicit comments and to further debate.Whereas the economics discipline possesses a highly refined theoretical apparatus to analyze the effects of government behavior on the economy, it has not (yet) managed to fully develop a positively fonnulated "economic theory of politics" that would permit the integration of the decision-making processes of voters, parties, and governments with those of consumers and finns, Considerable recent advances notwithstanding, the large and heterogeneous body of literature has (so far) remained outside the economic mainstream. This paper surveys the main approaches used to endogenize democratic elements and assesses the underlying reasons for researchers' renewed interest in this field.

The impact of political uncertainty on institutional ownership

“…In the U.S., the partisan differences between Democrats and Republicans bring additional uncertainty to the economy. Prior research shows that the two parties differ in views on taxes, government spending, and other social policies, which increases the volatility of interest rates, inflation, and employment, and other economic variables (see, e.g., Alesina, 1987;Alesina and Rodrik, 1994;Blomberg and Hess, 2001;Fowler, 2006;Olters, 2001). These differences may lead to or exacerbate certain business cycles that shape the financial market and industry sectors.…”

The effect of political uncertainty on the cost of corporate debt

“…Prior research shows that the two parties differ in views on taxes, government spending, and other social policies, which increases the volatility of interest rates, inflation, and unemployment, among other economic variables (see, e.g., Alesina, 1987;Alesina and Rodrik, 1994;Blomberg and Hess, 2003;Fowler, 2006;Olters, 2001). These differences may lead to or exacerbate certain business cycles that shape the financial market and industry sectors.…”

Politics and the stock market: Evidence from Germany

“…This theory, as pioneered, for example, by Downs (1957) and Nordhaus (1975), predicts that governments' popularity should depend upon the state of the economy. In empirical applications, the state of the economy is usually measured by important macroeconomic variables like, for example, output growth, inflation, or the unemployment rate (see Nannestad and Paldam (1994) and Olters (2001) for surveys). However, there are good reasons to use stock market variables instead.…”