Robert J. Franzese

Mixed Signals: Central Bank Independence, Coordinated Wage Bargaining, and European Monetary Union

Plans for the European Monetary Union (EMU) are based on the conventional postulate that increasing the independence of the central bank can reduce inflation without any real economic effects. However, the theoretical and empirical bases for this claim rest on models of the economy that make unrealistic information assumptions and omit institutional variables other than the central bank. When signaling problems between the central bank and other actors in the political economy are considered, we find that the character of wage bargaining conditions the impact of central bank independence by rendering the signals between the bank and the bargainers more or less effective. Greater central bank independence can reduce inflation without major employment effects where bargaining is coordinated, but it can bring higher levels of unemployment where bargaining is less coordinated. Thus, currency unions like the EMU may require higher levels of unemployment to control inflation than their proponents envisage. They will have costs as well as benefits, and these will be unevenly distributed among and within the member nations, depending on the changes they induce in the status of the bank and of wage coordination.

Partially independent central banks, politically responsive governments, and inflation

Theories of central bank independence have more exact implications regarding inflation in different political-economic environments than generally understood or empirically examined. They imply that inflation in any given country-time will be a weighted average of what it would be if the central bank completely controlled monetary policy and what it would be if the government completely controlled it, with the degree of central bank independence weighting the former. An equation embodying this theoretical expectation is estimated by constrained least-squares from a time-series cross-section of inflation rates in developed democracies since the Bretton Woods era. The results confirm that the antiinflationary benefit of central bank independence is not constant but rather depends on every variable in the broader politicaleconomic environment to which wholly autonomous central banks and governments would respond differently. Conversely, the inflationary impacts of all such political-economic variables depend on the degree of central bank independence.

Strategic Interaction among EU Governments in Active Labor Market Policy-making Subsidiarity and Policy Coordination under the European Employment Strategy

The European Union (EU) recently committed to becoming ‘the most competitive and dynamic knowledge-based economy in the world.’ Active labor market (ALM) policies are a critical part of the European Employment Strategy (EES) – the plan designed to achieve this objective. ALM policies entail several possible externalities that, spilling across national boundaries, may create incentives for European governments to free ride off the efforts of their neighbors. We provide empirical evidence that the national best-response functions for ALM spending (worker-training programs in particular) are indeed downward sloping; an increase in expenditures in one country decreases equilibrium expenditures in its neighbors. Therefore, levels of ALM spending may well be too low, notwithstanding the mildly increasing coordination fostered through the EES framework. Stronger enforcement procedures may be necessary if the European Union is to achieve its EES objectives.

Electoral and Partisan Manipulation of Public Debt in Developed Democracies, 1956-90

High and/or swiftly rising public-debt-to-GDP ratios (debt) became significant issues in many developed democracies in recent years. Figure 1 plots gross, consolidated, central-government debt for 21 OECD countries, 1948–97.39 Fairly commonly, debt declined dramatically from 1948–72± and equally dramatically reversed thereafter. In many countries, debt doubled or more from 1972–90; in some, it now exceeds 100%. Wide and rising public concern over these developments, and the number of theories emerging to explain them, are thus hardly surprising. Beyond the common trend, however, lie large differences in postwar debt experiences of OECD nations. Shared cross-time variation comprises only 16.6% of the total, with increasing divergence apparent since 1980 while persistent cross-national differences represent 56.4% of the total variation. Even removing shared temporal fluctuations and country averages, considerable country-time-unique variation, 27% of the total, remains.40

The Positive Political Economy of Public Debt: An Empirical Examination of the OECD Postwar Experience

The volume of theoretical literature seeking to explain public-debt accumulation has exploded in recent years as debt crises have emerged in many nations. However, empirical evaluation of political-economy theories has, unfortunately, lagged somewhat that of the standard taxsmoothing/economic-conditions model (0). This paper joins those beginning to redress the imbalance, operationalizing and testing eight political-economy-of-public-debt theories: (1a) an influence and (1b) a veto-actor conception of the political fractionalization, polarization, and delayed stabilization argument, (2) the wealth and age distributions and the inter- and intragenerational transfer functions of debt argument, the (3a) electoral and (3b) partisan political budget-cycles argument, (4) the debt as a commitment device argument, (5) the distributive politics and multiple-constituencies argument, (6) the tax-structure and fiscally-illuded voters argument, and (7) the central bank independence as a debt-financing constraint argument. The evidence strongly supports 0, 1b, 3a, and 6, favoring 1b over 1a unequivocally. Evidence regarding 3b, 5, and 7 is weaker and/or more mixed while 2 and 4 are flatly rejected. For these last five, the results suggest interesting avenues for further theoretical advancement and refinement.

Political Participation, Income Distribution, and Public Transfers in Developed Democracies

In the postwar era until recently, public-transfer shares of GDP have risen dramatically in every developed democracy. Much positive theory purports to explain this development as a direct consequence of differing distributions of political (votes) and economic (money) resources. This literature concludes, inter alia, that tax-and-transfer-system (T&T) sizes increase in the skew of the income distribution. This paper builds from that basis, suggesting theoretical additions and amendments deriving from further consideration of the democratic processes that transform resources into influence. It especially emphasizes that not everyone participates politically and that who participates is non-randomly selected. This implies that aggregate participation rates will mediate T&T responses to income inequality, and, conversely, that income inequality will mediate T&T responses to aggregate participation rates. Specifically, since the relatively wealthy have higher propensity to participate politically, higher aggregate participation rates will generally coincide with increased democratic representation of the relatively less well-off, suggesting that democratic governments will respond to greater inequality with larger T&T increases the higher the participation rate and, vice versa, higher participation induces larger T&T responses the more skewed the underlying income distribution. Regression analysis of the postwar T&T experiences of developed democracies support that hypothesis empirically.

The Spatial Probit Model of Interdependent Binary Outcomes: Estimation, Interpretation, and Presentation

We have argued and shown elsewhere the ubiquity and prominence of spatial interdependence, i.e., interdependence of outcomes among cross-sectional units, across the theories and substance of political and social science, and we have noted that much previous practice neglected this interdependence or treated it solely as nuisance, to the serious detriment of sound inference. These earlier studies considered only linear-regression models of spatial/spatio-temporal interdependence. For those classes of models, we (1) derived analytically in simple cases the biases of non-spatial and spatial least-squares (LS) under interdependence, (2) explored in simulations under richer, more realistic circumstances the properties of the biased non-spatial and spatial least-squares estimators and of the consistent and asymptotically efficient spatial method-of-moments (i.e., IV, 2SLS, GMM) and spatial maximum-likelihood estimators (ML), and (3) showed how to calculate, interpret, and present effectively the estimated spatial/spatio-temporal effects and dynamics of such models, along with appropriate standard errors, confidence intervals, hypothesis tests, etc. This paper begins a like set of tasks for binary-outcome models. We start again by stressing the ubiquity and centrality substantively and theoretically of interdependence in binary outcomes of interest to political and social scientists. We note that, again, this interdependence has typically been ignored in most contexts where it likely arises and that, in the few contexts where it has been acknowledged, or even rather centrally emphasized, those of policy diffusion and of social networks, the endogeneity of the spatial lag used (appropriately) to model the interdependence has only rarely been recognized. Next, we note and explain some of the severe challenges for empirical analysis posed by spatial interdependence in binary-outcome models, and then we follow recent advances in the spatial-econometric literature to suggest Bayesian or recursive-importance-sampling (RIS) approaches for tackling the estimation demands of these models. In brief and in general, the estimation complications arise because among the RHS variables is an endogenous weighted spatial-lag of the unobserved latent outcome, y*, in the other units; Bayesian or RIS techniques facilitate the complicated nested optimization exercise that follows from that fact. We show how to calculate estimated spatial effects (as opposed to parameter estimates) in such models and how to construct confidence regions for those, adopting simulation strategies for these purposes, and then how to present such estimates effectively.

Strategic Interactions of Monetary Policymakers and Wage/Price Bargainers: A Review with Implications for the European Common-Currency Area

This paper reviews recent work on macroeconomic management with varying organization of wage/price bargaining and degrees of credible monetary conservatism. The emerging literature synthesizes and extends theory and empirics on central bank independence (CBI) and coordinated wage/price bargaining (CWB), arguing that the degrees of CBI and CWB interact with each other and with other political-economic conditions (sectoral composition, international exposure, etc.) to structure the incentives facing actors involved in monetary policy and wage/price bargaining. The core implication, theoretically surprising but empirically supported, is that even perfectly credible monetary conservatism has long-run, equilibrium, on-average real effects, even with fully rational expectations, and that these effects depend on the organization of wage/price bargaining. Conversely, wage/price-bargaining structure has real effects that depend on the degree of credible conservatism reflected in monetary-policy rules. Each also has interactive nominal effects though this is less surprising. Some disagreement remains over the precise nature of these interactive effects, but all emerging theory and evidence agree that a common, credibly conservative European monetary policy has nominal and real effects that depend on the Europe-wide institutional-structural organization of wage/price bargaining. Indeed, the one specific piece of theoretical and empirical agreement suggests that, for many member countries, the nominal gains from monetary-policy delegation to a credibly conservative European Central Bank will worsen these bargaining-policy interactions.

Empirical Modeling of Spatial Interdependence in Time-Series Cross-Sections

Empirical analyses of spatial interdependence in the social sciences have until recently remained largely confined to specialized areas of applied economics (e.g., urban/regional, environmental, and real-estate economics) and sociology (i.e., network analysis). However, social-scientific interest in and applications of spatial modeling have burgeoned lately-including in comparative politics-due partly to advances in theory that imply interdependence and in methodology for addressing it, partly to global developments that have enhanced interconnectivity substantively, and thus the popular and scholarly perception of and attention to it, at all levels, from micro-/personal to macro-/international, and partly to advances in technology for obtaining and working with spatial data.

Modeling International Diffusion: Inferential Benefits and Methodological Challenges, with an Application to International Tax Competition

Although scholars recognize that time-series-cross-section data typically correlate across both time and space, they tend to model temporal dependence directly, often by lags of dependent variables, but to address spatial interdependence solely as a nuisance to be “corrected” by FGLS or to which to be “robust” in standard-error estimation (by PCSE). We explore the inferential benefits and methodological challenges of directly modeling international diffusion, one form of spatial dependence. To this end, we first identify two substantive classes of modern comparative-and-international-political-economy (C&IPE) theoretical models—(context-conditional) open-economy comparative political-economy (CPE) models and international political-economy (IPE) models, which imply diffusion (along with predecessors, closed-economy CPE and orthogonal open-economy CPE)—and then we evaluate the relative performance of three estimators—non-spatial OLS, spatial OLS, and spatial 2SLS—for analyzing empirical models corresponding to these two modern alternative theoretical visions from spatially interdependent data. Finally, we offer a substantive application of the spatial 2SLS approach in what we call a spatial error-correction model of international tax competition.