Marina Azzimonti

On the Dynamic Inefficiency of Governments

When the government must decide not only on broad public-policy programs but also on the provision of group-specific public goods, dynamic strategic inefficiencies arise. The struggle between opposing groups - that disagree on the composition of expenditures and compete for office - results in governments being endogenously short-sighted: a systematic under-investment in infrastructure and overspending on public goods arises as resources are more valuable when in power. I find that more ideologically homogeneous societies have higher capital accumulation and more efficient allocations. When there is an average advantage for one group over the other in the political dimension, the group that loses the elections more often tends to spend a higher share of output on public goods while investing even less than the other group. This creates economic cycles - that follow the political cycle - introducing fluctuations in real macroeconomic variables without assuming any exogenous productivity shocks.When the government must decide not only on road public-policy programs (like investment in infrastructure) but also on the provision of group-specific public goods (like regional transfers or subsidies), dynamic strategic inefficiencies arise. I present a model where the struggle between opposing groups -they disagree on the composition of expenditures and compete for government office- results in governments being endogenously short-sighted. As a result, there is a systematic under-investment in infrastructure and overspending on public goods. This results from resources being more valuable when in power than when out of power. Which group wins government office depends on explicitly modeled election outcomes that are functions of economic as well as (exogenous) political preferences of the citizens. I show how different characteristics of the groups involved in the political conflict affect the economy. In particular, I find that more ideologically homogeneous societies have higher capital accumulation and more efficient allocations since there is a greater incumbency advantage. I also find that when there is an average advantage for one group over the other in the political dimension, this group has incentives to act differently in office, even though both groups have the same basic preferences regarding the size of public spending (though not regarding its composition) and the level of investment. The group that loses the elections more often tends to spend a higher share of output on public goods while investing even less than the other group (when in office). This creates economic cycles -that follow the political cycle- introducing fluctuations in real macroeconomic variables without assuming any exogenous productivity shocks

The Dynamics of Public Investment Under Persistent Electoral Advantage

This paper studies the effects of asymmetries in re-election probabilities across parties on public policy and their subsequent propagation to the economy. The struggle between groups that disagree on targeted public spending (e.g., pork) results in governments being endogenously short-sighted: Systematic underinvestment in infrastructure and overspending on targeted goods arise, above and beyond what is observed in symmetric environments. Because the party enjoying an electoral advantage is less short-sighted, it devotes a larger proportion of revenues to productive investment. Hence, political turnover induces economic fluctuations in an otherwise deterministic environment. I characterize analytically the longrun distribution of allocations and show that output increases with electoral advantage, despite the fact that governments expand. Volatility is non-monotonic in electoral advantage and is an additional source of inefficiency. Using panel data from US states I confirm these findings.

The dynamics of public investment under persistent electoral advantage

This paper studies the effects of asymmetries in re-election probabilities across parties on public policy and their subsequent propagation to the economy. The struggle between groups that disagree on targeted public spending (e.g., pork) results in governments being endogenously short-sighted: Systematic underinvestment in infrastructure and overspending on targeted goods arise, above and beyond what is observed in symmetric environments. Because the party enjoying an electoral advantage is less short-sighted, it devotes a larger proportion of revenues to productive investment. Hence, political turnover induces economic fluctuations in an otherwise deterministic environment. I characterize analytically the long-run distribution of allocations and show that output increases with electoral advantage, despite the fact that governments expand. Volatility is non-monotonic in electoral advantage and is an additional source of inefficiency. Using panel data from US states I confirm these findings. (Copyright: Elsevier)

The Political Polarization Index

American politics have become increasingly polarized in recent decades. To the extent that political polarization introduces uncertainty about economic policy, this pattern may have adversely affected the economy. According to existing theories, a rise in the volatility of fiscal shocks faced by individuals should result in a decline in economic activity. Moreover, if polarization is high around election dates, businesses and households may be induced to delay decisions that involve high reversibility costs (such as investment or hiring under search costs). Testing these theories has been challenging given the low frequency at which existing polarization measures have been computed (in most studies, the series is available only biannually). In this paper, I provide a novel high-frequency measure of polarization, the political polarization index (PPI). The measure is constructed monthly for the period 1981-2013 using a search-based approach. I document that while the PPI fluctuates around a constant mean for most of the sample period prior to 2007, it has exhibited a steep increasing trend since the Great Recession. Evaluating the effects of this increase using a simple VAR, I find that an innovation to polarization significantly discourages investment, output, and employment. Moreover, these declines are persistent, which may help explain the slow recovery observed since the 2007 recession ended.

The Optimal Public and Private Provision of Safe Assets

We develop a theory of optimal government debt in which publicly-issued and privately-issued safe assets are substitutes. While government bonds are backed by future tax revenues, privately-issued safe assets are backed by the future repayment of pools of defaultable private loans. We find that a higher supply of public debt crowds out privately-issued safe assets less than one for one and reduces the interest spread between borrowing and deposit rates. Our main result is that the optimal level of public debt does not fully crowd out private lending and maintains a positive interest spread. Moreover, the optimal level of public debt is higher the more severe are financial frictions.

THE POLITICS OF FDI EXPROPRIATION: THE POLITICS OF FDI EXPROPRIATION

I examine the role of political instability and fractionalization as potential explanations for the lack of capital flows from rich countries to poor countries (i.e., the Lucas Paradox). Using panel data from 1984 to 2014, I document that (i) developed countries exhibit larger inflows of foreign direct investment (FDI), (ii) countries subject to high investment risk (IR) receive low FDI inflows, and (iii) IR is higher in fractionalized and politically unstable economies. These findings suggest a negative relationship between political instability and FDI through the IR channel. I inspect the theoretical mechanism using a dynamic political economy model of redistribution, wherein policymakers can expropriate resources from foreign investors. The proceeds are used to finance group‐specific transfers to domestic workers but hinder economic growth by discouraging FDI. I show that the political equilibrium exhibits overexpropriation and underinvestment.

The Politics of FDI Expropriation

I examine the role of political instability as a potential explanation for the lack of capital flows from rich countries to poor countries (i.e. the `Lucas Paradox). Using panel data from 1984 to 2014, I document the following: (i) developed countries exhibit larger inflows of foreign direct investment (FDI), (ii) countries subject to high investment risk are those that typically receive low FDI inflows, and (iii) investment risk is generally higher in fractionalized and politically unstable economies. These findings suggest a negative relationship between political instability and FDI through the investment risk channel. I then inspect the theoretical mechanism using a dynamic political-economy model of redistribution, wherein policymakers have access to an expropriation technology that can be used to extract resources from foreign investors. The proceeds are used to finance group-specific transfers to domestic workers, but hinder economic growth by discouraging FDI. Different social groups compete to gain control of this instrument, but face a probability of losing power at each point in time. The greater the degree of political turnover is, the stronger the incentives to expropriate when in power. A key force driving this result is redistributive uncertainty, since there is a possibility that no transfers will be received in the future. The mechanism is supported by the finding that investment risk (a measure that captures the degree to which the extraction technology is used) is negatively related to FDI and government stability. Finally, I show that the political equilibrium exhibits over-expropriation and under-investment even when there is no political uncertainty because fractionalized societies suffer from static inefficiencies due to the presence of a common pool problem.