Mikan

1. Still a Director’s Law?On the Political Economy of Income RedistributionPresentation at the IBL-IREF Conference on ‚Troppe tasse – ma a vantaggio di chi‘, Milan, June 18, 1007 Prof. Dr. Lars P. FeldUniversity Heidelberg,ZEW Mannheim, University of St. Gallen (SIAW-HSG), CREMA Basel and CESifo Munich Mikan

2. Still a Director’s Law? Outline of the Presentation • Director‘s Law Properly Taken • The Political Economy Rationale • Income Redistribution and Constitutions • Some Descriptive Evidence • Econometric Results • Conclusions Milan

3. Director‘s Law Properly Taken • Does income redistribution by the state run from rich to poor or from both, rich and poor to the middle income classes? • “Public expenditures are made for the primary benefit of the middle classes, and financed with taxes which are borne in considerable part by the poor and the rich.” (Stigler 1970, p.1) • All public expenditure needs to be considered. • Education, cultural spending and so on. • All public revenue needs to be considered. • A question of budget incidence: Fiscal residuum Milan

4. The Political Economy Rationale (1) • The median voter model. • Middle classes are always part of the minimum winning coalition. • The simple version already only holds with one dimensional decisions and single peakedness. • Under multi-dimensionality it is always better for the middle income classes to include a poor household than a rich household in the coalition. • Exploitation of the rich. • Director‘s Law proper: The middle and the poor coalesce against the rich. Milan

5. The Political Economy Rationale (2) • Meltzer and Richard (1981) • The higher the gap between mean and median income, the more redistribution is undertaken. • Increase in skewness towards high income earners. • Romer-Roberts • Regressive taxation, if the median income taxpayer is sufficiently productive. • Limits of redistribution as taxpayers avoid taxation and transfers pose adverse incentives. Milan

6. The Political Economy Rationale (3) • Political participation and voter turnout • High income earners participate more in politics. • Private provision of public goods • Potentially also a coalition of rich and poor against the middle classes. • Non-linear taxes • Rich and the middle classes against the poor. • Voluntary income redistribution • More important within social or ethnic groups. • But also: Targeted spending. Milan

7. The Political Economy Rationale (4) • Poorly informed voters and probabilistic voting • Pork-barrel politics as a different kind of targeting. • Special interest politics. • Difficult to predict a Director‘s Law. • Ideology may induce a Director’s Law • The economic interests of the rich and the poor are closely entangled with their ideologies. • The middle classes are politically much more mobile and will benefit from electoral platforms framed in their interests. Milan

8. Income Redistribution and Constitutions (1) • Direct vs. Representative Democracy • Political decision are more in line with median voter interests. • Speaks for validity of Director‘s Law in direct democracy. • But: Issue unbundling via citizen intiatives. • Like in the private provision of public goods, more targeted spending. • Less redistribution towards the middle income classes. Milan

9. Income Redistribution and Constitutions (2) • Presidential vs. Parliamentarian Systems • Head of parliamentary regime has additional bargaining power vis-à-vis the legislature. • Confidence vote and career concerns. • Presidents at times of divided government need to ensure a broad majority in the legislature. • Representatives from different electoral districts are in charge of agenda-setting in committees on taxing and spending. • More targeted spending and lower taxes in presidential systems. Milan

10. Income Redistribution and Constitutions (3) • Plurality rule vs. Proportional Representation • Spending targeted to districts under plurality rule • Proportional representation is associated with multi-party parliaments and the need to form coalition governments with more or less diverse interests. • A government needs to win the support of 50% plus one voter – it needs to rest on a wider basis than in the case of plurality rule. • Broader expenditure programs and in the case of income redistribution more general transfer schemes under proportional representation. Milan

11. Income Redistribution and Constitutions (4) • Federalism vs. Unitarianism • Who migrates in competitive federalism? • If it is the middle classes, Director‘s Law obtains. • If it is the high income earners, Director‘s Law is restricted. • Summarizing hypotheses • Direct democracy: Theoretically open. • Presidential systems and plurality rule: more difficult to realize Director‘s Law. • Competitive federalism: Mobile high income earners restrict Director‘s Law. Milan

12. Some Descriptive Evidence (1)

13. Some Descriptive Evidence (2)

14. Some Descriptive Evidence (3) • No clear-cut results from the descriptive data • Early evidence from the 1970‘s on budget incidence supporting Director‘s Law. • But: Strong assumptions as to the incidence of particular spending categories. • Evidence supporting Meltzer-Richard. • Democracy leads to more redistribution. • Plurality rule leads to less welfare spending. • Presidential systems have less welfare spending. Milan

15. Econometric Results (1)

16. Econometric Results (2)

17. Econometric Results (3)

18. Econometric Results (4)

19. Econometric Results (5)

20. Econometric Results (6)

21. Econometric Results (7)

22. Econometric Results (8)

23. Econometric Results (9)

24. Conclusions • Does redistribution follow a Director’s Law? • Arguments from the political economy of income redistribution do not allow to draw that conclusion: Too diverse arguments. • Descriptive evidence: also ambiguous. • Evidence on budget incidence: Not reliable. • Presidential systems: less welfare spending and more unequal distribution of disposable income. • Plurality systems: less welfare spending, but no significant effect on income distribution. Milan

25. Conclusions • Direct democracy: • lower welfare spending • lower broad-based taxes • less income redistribution only when primary income distribution not too unequal. • Fiscal competition: • Restrictions on Director‘s Law • Occurrence of Director‘s Law depends on the political system in place. Milan