The Suntory and Toyota International Centres for Economics and Related Disciplines

Political Cycles and the Macroeconomy by Alberto Alesina; Nouriel Roubini; Gerald D. Cohen
Review by: Philip R. Lane
Economica, New Series, Vol. 66, No. 261 (Feb., 1999), pp. 151-152
Published by: Wiley on behalf of The London School of Economics and Political Science and The
Suntory and Toyota International Centres for Economics and Related Disciplines

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Econornica(1999) 66, 151-4

Book Reviews
ALESINAandNOURIELROUBINI,
Political Cycles and the Macroeconomy. By ALBERTO
with GERALD D. COHEN. MIT Press, Cambridge, Mass. 1998. xii + 302 pp.
Paperback ?16.95.
This book by two leaders in the field, provides a theoretical and empirical exploration
of the relationship between political cycles and macroeconomic performance. This topic
has been the subject of much research over the last decade, and the authors provide a
valuable service in presenting a unified treatment of the main contributions in this
burgeoning literature. However, the book is more than just a survey and presents many
new results.
A brief introduction outlines the authors' motivation and provides an overview of
the book's inain contributions. Chapters 2 and 3 present a consolidated account of the
canonical political cycle theories: the opportunistic and partisan models. In each case,
the traditional (1970s) version is first laid out before turning to contemporary rational
expectations variations. These chapters both provide a useful theoretical framework for
the subsequent empirical analysis and stand alone as a textbook treatment that will
prove useful to researchers and students alike.
The empirical work begins in Chapter 4, with a time-series study of the US data.
The authors test for political cycle effects both in macroeconomic outcomes (growth
and inflation) and in policy instruments (monetary and fiscal policy). Relative to previous work, the approach is encompassing in the sense of investigating both opportunistic and partisan theories on a common, updated data-set. They find support for the
rational partisan theory: Democratic administrations are more expansionary than
Republican ones, but these effects are concentrated in the first half of the electoral
cycle. On the other hand, there is no evidence in favour of the prediction of the opportunistic theory that we should observe macroeconomic expansions prior to elections.
Chapter 5 investigates the impact of electoral uncertainty on macroeconomic performance. Building on Cohen's doctoral dissertation, an index of electoral uncertainty
is extracted from polling date through application of option pricing techniques. Again,
the rational partisan approach is supported in that expected inflation (as reflected in
forward interest rates) rises, the more probable is Democratic electoral success. Moreover, consistent with the presence of sticky wages or prices, post-electoral partisan
effects on macroeconomic performance are stronger, the more unexpected is the election outcome.
The empirical analysis is extended to a panel of industrial countries in Chapters 6
and 7. Again, the authors move beyond previous work by constructing a broader and
deeper database and conducting a comprehensive set of tests. The core finding is that,
in broad terms, the results for the industrial country panel are very similar to those for
the United States. As such, the United States is not exceptional, in contrast to the
working hypothesis of the 'American politics' branch of political science, and political
cycle theories are relevant in understanding macroeconomic performance across the
OECD. In addition, there is clear evidence that partisan cycles are larger in two-party
than in multi-party systems.
Having completed the investigation of the direct empirical predictions of opportunistic and partisan models, the authors next consider potential interactions between political cycle theories and some institutional features that have been emphasized in the
recent political economy literature. In Chapter 8 it is shown that a partisan political
system provides an additional incentive to establish an independent central bank. Such
delegation depoliticizes monetary policy and hence eliminates partisan cycles in
inflation and interest rates. Moreover, it may also insulate the economy policy from
opportunistic political cycles since the government is no longer able to directly manipulate monetary policy during election years.
The interaction between political cycles and the budgetary process is examined in
Chapter 9. In addition to discussing how institutional features affect fiscal outcomes
? The London School of Economics and Political Science 1999

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152

ECONOMICA

[FEBRUARY

(e.g. hierarchial and transparent fiscal procedures arguably induce more fiscal discipline
than collegial and opaque systems), the authors present evidence that two-party systems
adjust more quickly to fiscal shocks than multi-party coalition systems, with the latter
more rapidly accumulating larger amounts of debt in response to adverse shocks. This
suggests a trade-off in the design of political systems: two-party systems may generate
larger partisan cycles, but are better able to respond to shocks. Finally, Chapter 10
recapitulates the book's main findings and speculates as to the relevance of political
cycles to future macroeconomic performance. The authors predict that central bank
independence and international monetary and financial integration will attenuate, but
not elimiinate,partisan conflicts regarding the unernployment-inflation trade-off. However, the pressing need for fiscal consolidation in many countries will likely lead to
intense partisan and distributional conflicts over the precise design of fiscal adjustment
programmes.
Overall, this volume is a fine achievement. The authors write with appealing clarity
and successfully convey a sense of intellectual excitement about this field of research.
Throughout the book, the authors signal the many issues requiring future research, and
the book is a potential goldmine for graduate students trawling for dissertation topics in
this area. Among the extensions that would be desirable are the inclusion of developing
countries in the empirical analysis, and conditioning the macroeconomic transmission
of political cycles on characteristics such as a country's degree of openness to trade in
goods and capital.
This excellent book is a must-have for all economists and political scientists interested in the interaction between politics and macroeconomics and is also suitable as a
textbook for course modules in this area.
Trinity College Dublin and CEPR

PHILIPR. LANE

RewavrdingWork: How to Restore Participation and Self-Support to Free Enterprise.

By E. S. PHELPS. Harvard University Press, Cambridge, Mass. 1997. x + 198 pp.
?16.50.
The premier labour market problem in the United States in the past twenty years has
been the rising inequality of wages. This foreigner might be excused for observing that
the same comment applies to the United Kingdom. The present short volume argues
for a graduated wage subsidy applicable to the employment of low-wage workers as a
solution to this difficulty. In the United States the subsidy would kick in at $4 (slightly
below the federal minimum wage at the time the book was written) and phase out
gradually, disappearing for workers earning more than $12 per hour (roughly the average wage).
The author's justifications for this subsidy are as follows. (1) Unemployment and
low returns to work among unskilled workers create a variety of negative externalities,
such as increased crime and intergenerational spillovers. (2) A rich country, especially
one founded, as Phelps beautifully argues in the Epilogue, on notions of fellow-feeling
and comity, not merely on rugged individualism, should be ashamed of such inequality.
(3) The net costs of such a subsidy are small or zero once one accounts for reductions
in transfer programmes, increased productivity of higher-skilled workers (as the
employment of low-skilled workers rises), and reduced burdens of social problems.
In many ways, this is an extremely frustrating and annoying book. The externality
argument is unconvincing: One might instead argue that, to the extent that there are
externalities among workers, they flow mainly from higher- to lower-skilled. This alternative underlies recent theories of endogenous growth. It militates against subsidizing
the low-skilled to internalize externalities, and instead perhaps justifies subsidizing
education and training.
Those who have thought about and studied employment tax credits have pointed
out and even (Burtless 1985) measured the impact of the stigma that eligibility for such
credits may attach to the subsidized employee. Admittedly, the stigma would be less
under a broadly applicable wage subsidy, but it would hardly disappear and would still
reduce employers' responsiveness to the subsidy. More broadly, the author never
addresses the likely impact of the subsidy on low-skilled employment-would it really
? The London School of Economics and Political Science 1999

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