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

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

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

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 Govts

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

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

Model Basics Two factors, K and L Two sectors Non-market technology: F s (L s )= L s Price =1, so wages =1 Market technology: F m (K m,L m )I(T G ) CRT in K and L. T G is the level of public goods provision. I(T G )=1 if T G >Γ

Objectives Workers: Wages=1, so U L = L Residual R = F m (K m,L m )I(T G ) – L m accrues to K owners. Notice that K m,L m > 0 iff T G >Γ; then U K (k) = (1-t) R – k if T G >Γ, 0 otherwise. Think of R as relative earnings of capital Capital Owners U K =(1-t)R-k

Governments Utility Government cares about political support and taxes collected U G (g) = U K + (1- )U L + (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

Governments Utility Government cares about political support and taxes collected U G (g) = U K + (1- )U L + (tR -T G -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 T G is government spending on public goods provision.

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

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

F(K,L) R=F(K,L)-L L L K U(L) U(K) G (1- ) t g, T G k Economic Sector Political Sector

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)

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

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.

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 Then: Equilibrium tax rates fall Extraction occurs only if / > π S > 2 Extraction requires an even greater degree of mismatch Resource dissipation falls as well

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 its a common pool resource problem So they overgraze the taxable sector

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