Randall G. Holcombe

Institutions and the Impact of Investment on Growth

The literature on institutions and economic growth shows a close relationship between the quality of institutions and prosperity. This paper examines the impact of institutions on investment, and the resulting impact of investment on growth. The private investment rate of countries with better institutional quality is higher, and the productivity of any given level of investment is greater in countries with better institutions. Models that include various indicators of institutional quality along with inputs such as physical and human capital will generally underestimate the impact of institutional quality on growth because they do not account for the indirect impact of institutions on investment, as is done here. The paper also examines the direction of causality to show that higher institutional quality causes more investment, rather than the other way around. Further, future institutional improvements are more likely to occur against a background of poor economic performance than one of sustained growth.

The Origins of Entrepreneurial Opportunities

Kirzners (1973) theory of entrepreneurship emphasizes the equilibrating role of entrepreneurship. When the market is not in equilibrium, profit opportunities exist, and entrepreneurs discover and act on these profit opportunities to equilibrate the market. Because Kirzner focuses on entrepreneurial actions when profit opportunities exist, and does not describe where they come from, one could imagine a fixed stock of profit opportunities that get used up as entrepreneurs discover them. But new profit opportunities are being created constantly. A taxonomy of the origins of entrepreneurial opportunities includes factors that disequilibrate the market, factors that enhance production possibilities, and most notably, opportunities created from previous acts of entrepreneurship. Entrepreneurial actions do not use up profit opportunities, but create them, and the critical role of entrepreneurship in the creation of new profit opportunities is emphasized. This line of reasoning leads directly to policy implications regarding the economic environment conducive to entrepreneurial discovery and the role of government in research and development. This paper enhances Kirzners theory of entrepreneurship by illustrating how entrepreneurship enlarges the stock of future entrepreneurial opportunities, and points to entrepreneurship as the engine of economic progress.

The Impact of State Rainy Day Funds in Easing State Fiscal Crises During the 1990-1991 Recession

This article examines the degree to which rainy day funds eased the fiscal stress experienced by states during the 1990-1991 recession. In the first section, a state fiscal policy of neutrality over the business cycle is used as a benchmark for evaluating the use of budget stabilization funds. The next section looks at data from the last three recessions to see how recessions have affected the taxes and expenditures of states. A measure of degree of fiscal stress experienced by each state during the 1990-1991 recession is then calculated. These results are used to empirically investigate the impact of explicit state rainy day funds in easing state fiscal stress. Next, the article examines whether states that had rainy day funds in 1989 were more likely to have less fiscal stress, and whether the specific deposit and withdrawal provisions of these funds made a difference.

The median voter model in public choice theory

8. ConclusionThe changing perception by public choice theorists about the relevance of the median voter model is a result of excessive extrapolation of the conclusions of theoretical models to the real world. Early in the 1970s the median voter model was often accepted as implying that the output produced in the public sector was what was most preferred by the median voter. This claim is excessive because the median voter model is only a model of demand aggregation under majority rule and has little to say about the supply side of the public sector. In the late 1970s many scholars identified several circumstances under which the model would not apply in theory, but these critiques of the model were often viewed as reasons to abandon the median voter model altogether. The model went from having excessive claims that made the model appear to be more powerful than it really is to excessive claims that made the model appear to be less powerful than it really is. These latter claims were often in response to the earlier claims rather than to the model, appropriately applied.Pointing out that the model might not be valid under some circumstances in no way implies that the model is never valid. In fact, this paper has reviewed strong arguments, both empirical and theoretical, suggesting that the median voter model is a good approximation of demand aggregation in the public sector for many issues. One paper will not change the opinions of public choice theorists on the median voter model. But the argument given here is that there is a large amount of theoretical and empirical evidence supporting the median voter model as a good foundation for the development of the theory of public sector demand. Once the overly ambitious claims that have been made for the model are set aside, the median voter model is in a good position to provide a base for the development of a theory of political structure that is analogous to the theory of market structure in economics.

Political Entrepreneurship and the Democratic Allocation of Economic Resources

Political entrepreneurship occurs when an individual acts on a political profit opportunity. These profit opportunities can be divided into two categories: productive, and predatory. Productive opportunities enable entrepreneurs to profit from enhancing the efficiency of government, while predatory opportunities enable entrepreneurs to profit from forcibly transferring resources from some to others. This analysis shows that political institutions tend to favor predatory over productive political entrepreneurship, and shows that what is sometimes referred to as political exchange does not have the same efficiency characteristics as voluntary exchange in private markets.

The Effects of Public Investment on Private Investment in Developing Economies

The literature on the impact of public investment in developing economies gives inconsistent results on whether it complements or crowds out private investment. Applying several pooled specifications of a standard investment model to a panel of developing economies for 1980 to 1997, this study finds that public investment complements private investment, and that, on average, a 10 percent increase in public investment is associated with a 2 percent increase in private investment. The results also indicate that private investment is constrained by the availability of bank credit in developing economies. The same empirical models are run on a panel of developed economies. In contrast to developing economies, public investment crowds out private investment in developed economies. The results show that in a number of important ways, private investment in developed economies is influenced by different factors than private investment in developing economies.

The Effect of State Income Taxation on Per Capita Income Growth

This study examines the impact of changes in marginal state income tax rates on per capita income by comparing income growth in counties on state borders with income growth in adjacent counties across the state border. Compared to a standard cross-sectional analysis, this border-matching technique is a better way to hold constant many factors that can vary for geographical reasons, such as climate, culture, and proximity to markets. The results show that over the 30-year period from 1960 to 1990, states that raised their income tax rates more than their neighbors had slower income growth and, on average, a 3.4% reduction in per capita income.

Tax Policy from Public Choice Perspective

Despite the fact that the tax structure is a product of the political process, rarely does an economic analysis of tax policy take account of the political environment within which the tax structure is designed. The analysis that follows begins with the recognition that the political system uses resources to desing tax systems, and these costs should be taken into account along with other welfare costs of the tax system. While public choice theory might offer much to help advance the theory of taxation, the main focus of this essay will be policy-oriented, and will begin by explicitly recognizing the political costs that are created when people try to influence tax law for their benefit.

The Impact of Population Density on Municipal Government Expenditures

Data from 487 municipal governments with populations greater than 50,000 are examined to see the relationship between population density and per capita government expenditures. There is no statistically significant relationship between per capita total government expenditures and operational expenditures for cities smaller than 500,000, and for larger cities, higher population density is associated with higher per capita government expenditures. Infrastructure expenditures tend to decline with increases in population density for cities smaller than 500,000, whereas expenditures on services tend to increase with population density for cities larger than 500,000. The relationship between per capita total expenditures and population density has policy relevance because it indicates that when all government expenditures are taken into account, policies that increase population density will not reduce per capita government expenditures and, in larger cities, will lead to higher per capita government expenditures.

Veterans Interests and the Transition to Government Growth: 1870-1915

Civil War veterans were the first interest group to use their political power to obtain substantial monetary transfers from the U.S. Treasury. Veterans supported the Republican party, and in exchange Republicans provided increasingly generous veterans benefits, placing a strain on the Treasury that led toward a demand for increased taxes. Veterans also established a precedent that other groups could follow to petition the goverment for economic benefits, shaping the transformation of American government in the Progressive era which led to the substantial growth of the federal government in the 20th century.