When Are Autocracies Economically Efficient?

1. When Are Autocracies Economically Efficient? David Epstein, Columbia University Peter Rosendorff, University of Southern California

2. Motivation • Politics leads to economically inefficient outcomes because: • Property rights are insecure, so governments can extract resources • Politicians trade rents for political support via inefficient policies

3. Motivation • Politics leads to economically inefficient outcomes because: • Property rights are insecure, so governments can extract resources • Politicians trade rents for political support via inefficient policies • E.g., Russia both then Soviet State

4. Motivation • Politics leads to economically inefficient outcomes because: • Property rights are insecure, so governments can extract resources • Politicians trade rents for political support via inefficient policies • E.g., Russia both then and now • We want to capture both aspects in a single model Federal & State Gov’ts

5. Strategy • Use a contest model (a la Hirshleifer) to capture competition over taxes • Government and capital owners choose resources to devote to contest • Tax rate is thus endogenously determined • Politicians care about • Political support from different sectors • Rents extracted via taxes • See to what degree political institutions, like SOP, can mitigate the inefficiencies generated

6. Findings • Separate powers can economize on inefficiencies with fixed sharing rules • Otherwise, the result can be more inefficient than it was with just a single autocrat • The idea is to turn a common pool resource problem into one a collective action problem • Inefficiencies arise through the mismatch of political and economic support • Source of potentially testable implications

7. Model Basics • Two factors, K and L • Two sectors • Non-market technology: Fs(Ls)= Ls • Price =1, so wages =1 • Market technology: Fm(Km,Lm)I(TG) • CRT in K and L. • TG is the level of public goods provision. • I(TG)=1 if TG>Γ

8. Objectives • Workers: Wages=1, so • UL = L • Residual R = Fm(Km,Lm)I(TG) – Lm accrues to K owners. • Notice that Km,Lm > 0 iff TG>Γ; then • UK(k) = (1-t) R – k if TG>Γ, 0 otherwise. • Think of R as relative earnings of capital • Capital Owners • UK=(1-t)R-k

9. Government’s Utility • Government cares about political support and taxes collected • UG(g) = UK + (1- )UL+ (tR-g) •  measures relative weight on capital • Can be: • Electoral support • Rewards for friends, a la crony capitalism • Armed strength or capacity to disrupt via riots • Racial and ethnic factors

10. Government’s Utility • Government cares about political support and taxes collected • UG(g) = UK + (1- )UL + (tR -TG -g) •  measures relative weight placed on net rents, relative to political support • Higher values mean a more secure government • g measures the resources that the government spends on contest • TG is government spending on public goods provision.

11. Tax Rates • The equilibrium tax rate is: • Results from a contest between government and capital • Actual armed conflict • Resource extraction under Nash bargaining • Capital can hide assets offshore, at a cost • Bureaucrats extract taxes, business lobbies

12. U(L) L (1-b) L G t a R=F(K,L)-L b F(K,L) K U(K) Political Sector Economic Sector

13. U(L) L (1-b) L g, TG G t a R=F(K,L)-L k b F(K,L) K U(K) Political Sector Economic Sector

14. Equilibrium Under Autocracy • Contest allocations : • Only have nonzero allocations if />>1. • Degree of political/economic mismatch: / • Secure autocrats are the most inefficient • Expenditures rise with R (and with K)

15. Tax Rates • Only depends on political support and preference for net rents • t = ½ when =0; t = 0 when =1 • Autocrat is never maximally extractive • Marginal benefits of taxing are constant, while the cost of extraction increases

16. Resource Dissipation • Notice that all the tax revenue collected, less any spent on public goods provision is completely dissipated. • There is no surplus in equilibrium. • Dissipation is due to a mismatch between political and economic sources of support • If both come from the same sector    , outcome is (more) efficient – less wasteful.

17. Two Branches, Fixed Sharing • Two entities, P and C, can each attack capital now • t = (p+c) / (p+c+k) • Assume first that all tax revenue generated is split 50-50 • Then: • Equilibrium tax rates fall • Extraction occurs only if / > πS > 2 • Extraction requires an even greater degree of mismatch • Resource dissipation falls as well

18. Proportional Sharing • Tax revenue is shared according to amount each invests in attacking K • P earns t*[p/(p+c)]; C earns t*[c/(p+c)] • Now both tax rates and dissipation rise • Why? • Previous equilibrium made interbranch relations into a collective action problem • Now it’s a common pool resource problem • So they “overgraze” the taxable sector

19. Discussion • Institutions such as SOP and federalism can prevent resource dissipation • But only with enforceable, predetermined allocations of tax revenues • Otherwise, the “multiple mafias” problem will make matters worse • Politicians will be efficient if: • They are more concerned about their political support than extraction, or • Their political & economic support come from the same sector of society