The Comparative Institutions Approach Revisited
Remember the Emperor's tale?
After a full semester of public choice, we are
now in a much better position to step back and compare institutions.
Dictatorship has obvious problems. How do the problems of democracy compare?
Economically literate defenders of democracy
typically focus on government's special ability to supply public goods. After analyzing how democracy actually works,
what can we say about this?
If people voted rationally and instrumentally, the
public goods argument makes a great deal of sense.
However, since voting is largely expressive and
not instrumental, public goods are supplied only by coincidence.
Ex: National defense may have expressive as well
as instrumental value.
But: Expressive voting is likely to lead to
government involvement in a wide array of "feel-good" issues that
have nothing to do with public goods.
Care of the old
Similarly, whenever voters hold systematically
mistaken beliefs, we are likely to see government wasting resources or being
Labor market regulation
All this adds up to an efficiency case for limiting
the scope of democracy in order to keep "political pollution" under
Still, if dictatorship and democracy are our
only choices, democracy seems like the lesser evil.
Alternatives to Democracy and Dictatorship
Is democracy the only alternative to
dictatorship? Most countries that we
call “democracies” have many
undemocratic elements, including:
Division of powers
Limitations on the scope of democracy
Franchise restrictions – most notably the
restriction that only citizens get to vote!
Non-economists often insist, “This is a
republic, not a democracy.” Strictly
speaking, they’re right, even if unpopular restrictions on democracy tend to
Alternate formulation: “There are many different
kinds of democracy.”
Whether or not you call them “democratic,”
couldn’t many of these restrictions mitigate democracy’s political failures?
Ex: Supermajority rules (2/3 vote for price
controls), limitations on the scope of democracy (“Congress shall pass no law
infringing the freedom of production and trade”), and federalism could all
mitigate anti-market bias.
Ex: Giving two votes to college grads could
mitigate anti-foreign bias.
Ex: How about giving the CEA veto power over
Constitutional Reform and Endogenous
Direct democracy rarely prevails in a pure
form. Constitutional restrictions are
all around us.
These observations lead many people in public
choice – most prominently, James Buchanan – to advocate constitutional reforms
to improve upon the status quo.
Example: 2/3 rule for spending. Perhaps then, pork barrel projects will fail,
and only genuine public goods will receive funding.
Problem: It seems like any public choice problem
that afflicts day-to-day democracy will afflict constitutional choice as
In other words, constitutions are endogenous institutions. They are a product of the same forces that
generate other social outcomes, and no easier to change.
French/U.S. switch thought experiment.
Some proposed constitutional amendments have no
obvious impact on policy. These are
relatively easy to pass, but what's the point?
Other proposed constitutional amendments would obviously
affect policy. These are hard to pass
because the policies that currently exist tend to be popular.
Note: This doesn’t mean that direct democracy
always prevails, just that invoking “constitutional changes” as a solution to
problems with the status quo is probably wishful thinking.
Are Constitutional Politics Different?
Still, Buchanan and others insist that
constitutional politics are
different. Their central argument:
Constitutional politics operates behind a real
(not merely hypothetical) “veil of ignorance.”
This leads people to selfishly
favor socially efficient policies.
Buchanan’s favorite example: Auto accident
liability rules. At the constitutional
level, no one knows whether he’ll be a plaintiff or defendant, so we can get
unanimous (or “virtually unanimous”) support for efficient policies.
This whole argument rests on the discredited
SIVH, but it fails even on its own terms.
There may be some
constitutional rules where a veil of ignorance applies (though even Buchanan’s
favorite example overlooks lawyers). But
most constitutional rules are about permanently
locking in existing political advantages.
Consider a few examples from the U.S.
Constitution. Cui bono ex ante?
The purpose of the Senate is to permanently give
small states disproportionate influence.
The purpose of the slave trade provision is to
make sure that the slave trade remains legal until 1808.
The purpose of the three-fifths compromise is to
reduce the total influence of the South, but increase the influence of Southern
Or consider modern some Constitutional decisions. Cui bono ex ante?
The purpose of court rulings on religion is to
prevent the religious majority from doing what it wants to the secular
The purpose of court rulings on abortion is to
prevent states with pro-life majorities from restricting abortion.
In each of these cases, it is obvious ex ante
who will benefit and who will lose. The
point is to reassure the winners of today that they will continue to get their
way even if political conditions change to their disadvantage.
In “Before Public Choice,” Buchanan freely
admits that social contract theory is a “myth” designed to “rationalize” the
status quo. Exactly.
The most original and thoughtful suggestion for
constitutional change in decades, if not centuries: Robin Hanson’s “futarchy.”
Background: Empirically, prediction markets (a.k.a.
betting markets) are the best way to estimate the future. They are the turbo-powered version of “Put up
or shut up.”
question that eventually has a verifiable answer can be turned into a financial
instrument – and its market price will efficiently aggregate all available
This includes contingent instruments such as…
A stock price conditional on firing the CEO.
The unemployment rate conditional on Obama
Terrorism deaths conditional on invading Iraq.
Tax rates in 2020 conditional on TARP.
Do betting markets give perverse incentives to
make bad things happen? We rarely worry
about this for traditional financial instruments, and in any case there is a
simple solution: Register the bettors, and/or cap the bets.
9/11 Commission found no evidence that anyone
used prior knowledge of the attacks to profit.
Do betting markets encourage manipulation to
mislead people using the market price to make decisions? No.
Manipulation just provokes arbitrage.
See the Hanson-Oprea experiment.
Robin’s innovation: A constitution could require decisions to be based on betting
Moderate example: A corporate charter could
include a “fire the CEO” provision that says that if the value of the firms’
stock conditional on firing the CEO ever exceeds its value conditional on
retaining the CEO, the CEO gets fired.
Robin advocates turning this approach into the
basis for a whole system of government.
He calls it “futarchy.” Slogan:
“Vote on values, but bet on beliefs.”
This means that:
The political process defines an objective
function, such as “maximize GDP” or “maximize GDP plus the market value of
leisure” or “maximize GDP per capita times life expectancy.” As a short-hand, Robin calls the maximand
If betting markets say that a policy has a
higher expected value of GDP+ than the status quo, the constitution requires the adoption of that
Ex: Someone proposes TARP. Betting markets on GDP+|TARP and GDP+|~TARP
go online. If and when the value of the
former exceeds the latter, TARP gets adopted.
Critics can then set up betting markets about the expected effect of
Most criticisms of futarchy argue that betting
market odds are not to be trusted. These
criticisms are weak, and often ignore extensive, specific counter-evidence and
Will the marginal suicide bomber change his mind
if he add $100 to his will?
My main concern is with the definition of
GDP+. A key weakness of central planning
was that managers were given maximands that sounded good at the time, but gave