Political cycles: Beyond rational expectations

Abstract

Motivation and methodExisting rational expectations models cannot satisfactorily explain why political budget manipulations systematically raise re-election chances and only occur in “specific contexts”. This paper offers a theoretical explanation by including unsophisticated voters into an opportunistic political cycle model; unsophisticated voters are unable to take the optimal behaviour of other agents (fully) into account, but may, nonetheless, vaguely suspect government deception.ResultsFirst, rationally expected manipulations are, on average, fruitless in equilibrium. By including unsophisticated voters we can, however, corroborate empirically found electoral effects of political budget manipulations. Second, unsophisticated voters become anxious and suspicious in an intransparent or uncertain world, but the government tries to “outperform” their scepticism by increasing budget manipulations in order to appear more competent and, ultimately, increase re-election chances. It is, therefore, not surprising that political budget cycles are observed in countries suffering from intransparencies such as developing countries or new democracies. Third and in addition, the model presented here predicts that political opportunism produces, unintentionally, a countercyclical policy effect in election years, thereby, for instance, alleviating the typical problem of policy procyclicality in developing countries.Additional contributionThe paper also offers a theoretical explanation for political distortions found in forecasts by US states. Based on overly optimistic revenue forecasts the incumbent state government can conduct expansionary fiscal policies in order to appear more competent prior to an upcoming election. Since the resulting deficit can only be observed afterwards, the government can effectively circumvent a constitutional balanced budget constraint. As a result, there are political forecast and budget cycles in the state. More generally, however, these findings may also apply to European countries where balanced budget constraints are or will be in place (for instance the debt brakes in Switzerland and Germany); similarly, they apply to the supra-national European Fiscal Compact of the European Union.

Rational erraticism

“… 7. In the Lohmann (1998) and Shi and Svensson (2006) models, the incumbent can actually not increase her re-election chances in equilibrium because of rational expectations. In this paper, there may be an electoral effect because we allow for the possibility of non-fully rational voters as in Bohn (2018). This is also in line with Huber et al (2012) who argue that rhetoric propaganda improves reelection chances of the incumbent, regardless of cumulative performance.…”

“…In our paper, we argue that erraticism can be used to appear responsive in public statements to supporters (and, thereby, mobilize them). At the same time, the incumbent can appear competent to swing voters because, according to Bohn (2018), the incumbent’s hidden effort may bias (unsophisticated) voters’ perception of reality.…”

“…However, swing voters could be manipulated, if they did not have fully rational expectations (Bohn, 2018; Aidt and Dutta, 2008; Alt et al, 2016). We think that this is not unrealistic because the drawback of lockdown restrictions instituted by the state governments on the economy can be straightforwardly observed.…”

Do expected downturns kill political budget cycles?

“…10 This is a different approach to the ones taken in Bohn (2018) and Bohn (2019). In the former, voters are unsophisticated and cannot rationally expect the government manipulation.…”

Political budget cycles revisited: Testing the signalling process

“…Additionally, in line with the 'transparency effect', it is widely believed that citizens are more likely to monitor local government policies and actions. Moreover, specific groups of voters could be more easily targeted at the local 2 For example, Bohn (2018Bohn ( , 2019, Bove at al. (2017), Brender and Drazen (2009), Candel-Sánchez ( 2007), Drazen andEslava (2006, 2010), González et al (2013), Hanusch (2012a, 2012b, Hindriks and Lockwood (2009), Kammas and Sarantides (2016), Saporiti and Streb (2008), Streb et al (2005), Streb and Torrens (2013), and Wang and Bohn (2019).…”