Introduction to International
Political Economy
International Political Economy
Prof. Tyson Roberts
Lecture Goals
• What is IPE?
• Why is IPE important?
• Applying the IPE framework to the EU
Review of concepts
•
•
•
•
•
•
•
•
Utility
Expected utility
Time discounting/present value
Pareto efficiency/optimality
Externalities
Transaction costs
Institutions
Market as freedom vs. market as prison
3
• “Institutions are the rules of the game in
society or, more formally, are the humanly
devised constraints that shape human
interaction.” (North, 1990)
• In other words, institutions (formal &
informal) are like common habits shared in a
society that shape how people respond to
situations because of expected payoffs
Takeaways from Rodrik Chapter 1
• Markets & states are substitutes: alternative
institutions for allocation & re-allocation of
resources
• Markets & states are complements:
– States (and interstate arrangements) enable
markets to function, and
– Markets efficiently facilitate economic exchange
for states
5
What is IPE?
What is IPE?
• Oatley: IPE “studies life in the global economy.
It focuses most heavily on the enduring
political battle between winners and losers
from global economic exchange” (p. 1)
7
What is IPE?
• Oatley: IPE “studies life in the global economy. It
focuses most heavily on the enduring political
battle between winners and losers from global
economic exchange” (p. 1)
• Grieco & Ikenberry: “a field whose central
concern involves the reciprocal relationships
between state interests and power on the one
hand, and world market structures and economic
dynamics on the other” (p. 3)
8
• Y = α + βX + ε
• Economic winners
• Market exchange
Market exchange
Politics
9
Why is IPE important?
Source: PWT
10
Why is IPE important?
Source: WDI
11
Why is IPE important?
Source: WDI
12
Developing economies
Transition economies
2010
2009
2008
2007
2006
2005
2004
2003
2002
2001
2000
1999
1998
1997
1996
1995
1994
1993
1992
1991
1990
1989
1988
1987
1986
1985
1984
1983
1982
1981
1980
1979
1978
1977
1976
1975
1974
1973
1972
1971
1970
Why is IPE important?
FDI, % of GDP
6
5
4
3
2
1
0
-1
Developed economies
13
Why is IPE important?
Source: S&P 500 (Orange) and EuroStoxx 500 (Blue) from Economist, Feb. 6, 2011
14
Why is IPE important?
15
Why is IPE important?
Figure 3
High 1
Capital Mobility and the Incidence of Banking Crisis: All Countries, 18002007
Share of Countries
in Banking Crisis, 3-year
Sum
(right scale)
0.9
1914
0.8
0.6
20
0.5
Percent
Index
30
25
0.7
Capital Mobility
(left scale)
0.4
0.3
35
15
1825
1980
1860
10
0.2
1945
0.1
5
1918
Low 0
0
1800 1810 1820 1830 1840 1850 1860 1870 1880 1890 1900 1910 1920 1930 1940 1950 1960 1970 1980 1990 2000
Sources: Bordo et al. (2001), Caprio et al. (2005), Kaminsky and Reinhart (1999), Obstfeld and Taylor
Source: (2004),
Reinhart
andauthors.
Rogoff 2008
and these
Notes: As with external debt crises, sample size includes all countries, out of a total of sixty six listed in
16
1820
1825
1830
1835
1840
1845
1850
1855
1860
1865
1870
1875
1880
1885
1890
1895
1900
1905
1910
1915
1920
1925
1930
1935
1940
1945
1950
1955
1960
1965
1970
1975
1980
1985
1990
1995
2000
2005
2010
New Immigrants per 1000 residents
Why is IPE important?
New Immigrants Per 1000 Residents
60
50
40
30
Canada
Australia
USA
20
10
0
Source: MPI Data Hub and Angus Maddison
17
Why is IPE important?
18
The Value of Models
Source: Tetlock 2008: Expert Political Judgment
19
Traditional Schools of IPE
• Mercantilist
• Liberal
• Marxist
Traditional Schools of IPE
• Mercantilist: Actor is the state, interest is
accumulating wealth, policy preferences include
export promotion & import protection
• Liberal: Actor is the individual, interest is
individual welfare maximization, policy
preference includes free trade
• Marxist: Actor is the class (capitalist vs. workers),
interest for capitalist is to profit maximize, policy
preferences include property rights & union
busting
Modern Approach to (International)
Political Economy is Generalizable
• “Actors”
Who are some actors we might consider in IPE?
(Write down 10)
Actors
•
•
•
•
States
Corporations
Individuals
Organizations of states, corporations, or
individuals
State Actors
• Actors within states
– Governments (executive & cabinet)
– Legislatures
– Bureaucracies
• States as national economies
–
–
–
–
Large vs small
Rich vs poor
Lenders vs borrowers
Manufacturing-based vs. farming-based
• Organizations of states
– UN, WTO, IMF, EU, ASEAN, etc.
Corporation Actors
• Actors within corporations
– Shareholders
– Management
– Employees
• Corporation sectors
– Manufacturers
– Financial services
– Non-financial services
• Organizations of corporations
– Chambers of Commerce, industry groups, etc.
Individual Actors
•
•
•
•
•
•
•
•
•
•
•
Consumers
Workers/Employees
Borrowers
Investors and lenders
Tax-payers
Government service recipients
Voters
Politicians
Landlords
Renters
Organizations of individuals: unions, associations, parties,
etc.
Actors, Interests, & Policy Preferences
• Actor: Borrowers
– Governments, economies, firms, or individuals
• Interest: Want easy & cheap access to credit
• Policy Preference: Low interest rates, loose
conditions, no penalties
Actors, Interests, & Policy Preferences
• Actor: Lenders
– Governments, economies, firms, or individuals
• Interest: Want high returns & low risk
• Policy Preference: High interest rates, strict
conditions, tough penalties
Preference intensity
• Individuals have many attributes
• For example, I am …
–
–
–
–
–
–
–
–
A borrower
A lender
An investor
A consumer
An employee
An employer
A tax payer
A government services recipient
Preference intensity
Which of my attributes will determine my (most
intense) policy preferences?
Policy preference intensity
An actor’s (most intense) policy preferences are
determined by
1. Susceptibility of attributes/assets to policy
2. Concentration & functional specificity of
attributes/assets
3. Ideology
Groups, institutions, & outcomes
• Some actors will act as groups
– Similar interests
– Few collective action problems
• Group size, enforcement mechanisms, etc.
• Institutions (as cause)
– help determine which actors will group together, and
– which groups will achieve preferred policy
• Institutions (as effect)
– Groups dissatisfied with policy outcome will attempt
to change political institutions
Continental Break-up podcast
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•
•
•
•
Who are the primary actors?
What are their interests?
What are their policy preferences?
How do they group together?
What are the institutions that dictate
outcomes?
EU Example, Part I
• Lender countries prefer strict rules (Germany wanted
United States of Europe), low inflation rates
• Borrower countries prefer loose rules, domestic
sovereignty, care less about inflation
• EU institution: Treaty among sovereign nations
– Formal: consensus, each state has equal votes (Germany
wants peace & customers, willing to accept smaller
countries as equal partners)
• Policy outcome: Maastricht Treaty: Moderately strict
rules with no teeth
Examples of Consensus Institutions
• Voluntary and informed decisions => Pareto
improvements
• Market exchange. Actors: transacting parties
• Treaty. Actors: sovereign nations
• Policy change. Actors: institutional veto
players
Introduction of Euro reduced borrowing costs
for many “less developed” European economies
37
When investors realized/were told indebted countries
could default (Maastricht Treaty doesn’t include
bailouts), interest rates rose => vicious cycle, crisis
39
EU Example, Part II
• Crisis =>
– Large negative effect on borrowers (& lenders, less so)
• Pressure to change policy:
– Lender countries want more teeth
• Institution
– Formal: consensus
– Informal: negotiating power of lenders was increased
• New policy proposal:
– More information & more teeth
Market as freedom:
Trade enables Pareto improvements
PIMCO
Greece
Offer loans
Sit on cash
Borrow & invest/
spend
4, 4
2, 2
Live on modest
means
2, 2
2, 2
In good market conditions, win/win transactions are readily available
41
Market as Prison:
In crisis, PIMCO’s pursuit of profits undermines
Greek democratic autonomy
Withdraw
funds
P: Exit
G: Default
P
Austerity
Lend
G
High spending
budget
Withdraw
funds
P: Higher return
G: Avoid default
P: Exit
G: Default
P
Lend
P: Low Return
G: Continue
spending 42
Solving sequential games in game
theory
• Players make choices sequentially
• Payoffs are result of choices made by each
player
• To solve, look at last move first and work
backwards
• Subgame perfect equilibrium: Actions each
player would choose at each decision node
43
PIMCO can choose to withdraw funds (Exit) or
continue lending (Loyalty) after seeing Greece’s
policy decision
Withdraw
funds
P: Exit
G: Default
P
Austerity
Lend
G
High spending
budget
Withdraw
funds
P: Higher return
G: Avoid default
P: Exit
G: Default
P
Lend
P: Low Return
G: Continue
spending 44
Numerical values for payoffs
Greece
• Best outcome: Continue
high spending (and avoid
default) = +1
• 2nd best: Avoid default (but
austerity) = -1
• 3rd best: Default = -3
Pimco
• Best outcome: High returns
= +1
• 2nd best: Exit (and invest
elsewhere) = 0
• 3rd best: Low returns = -1
PIMCO’s Loyalty payoff is better than the Exit
payoff if Greece chooses Austerity
Withdraw
funds
P: 0
G: -3
P
Austerity
Lend
G
High spending
budget
Withdraw
funds
P: 1
G: -1
P: 0
G: -3
P
Lend
P: -1
G: 1
46
PIMCO’s Exit payoff is better than the Loyalty
payoff if Greece chooses to Continue spending
Withdraw
funds
P: 0
G: -3
P
Austerity
Lend
G
High spending
budget
Withdraw
funds
P: 1
G: -1
P: 0
G: -3
P
Lend
P: -1
G: 1
47
Step 1: Last player chooses best payoff from
each node
Withdraw
funds
P: 0
G: -3
P
Austerity
Lend
G
High spending
budget
Withdraw
funds
P: 1
G: -1
P: 0
G: -2
P
Lend
P: -1
G: 1
48
Step 2: Replace decision nodes with payoffs
from players best choice
P: 1
G: -1
Withdraw
funds
P: 0
G: -3
P
Austerity
Lend
G
P: 0
G: -2
High spending
budget
Withdraw
funds
P: 1
G: -1
P: 0
G: -2
P
Lend
P: -1
G: 1
49
Step 3: Previous player chooses best payoff from
each node (in this case the only node)
P: 1
G: -1
Withdraw
funds
P: 0
G: -3
P
Austerity
Lend
G
P: 0
G: -2
High spending
budget
Subgame Perfect Equilibrium:
• G: Austerity, P: Lend if Austerity,
Withdraw if Spend
Withdraw
funds
P: 1
G: -1
P: 0
G: -2
P
Lend
P: -1
G: 1
50
Subgame Perfect Equilibrium:
G: Austerity,
P: Lend if Austerity, Withdraw if Spend
P: 1
G: -1
Withdraw
funds
P: 0
G: -3
P
Austerity
Lend
G
P: 0
G: -2
High spending
budget
Withdraw
funds
P: 1
G: -1
P: 0
G: -2
P
Lend
P: -1
G: 1
51
Because PIMCO has a viable exit option, Greece
is under pressure to accept conditions
P: 1
G: -1
Withdraw
funds
P: 0
G: -3
P
Austerity
Lend
G
P: 0
G: -2
High spending
budget
Investors’ economic freedom
imprisons democratic government
Withdraw
funds
P: 1
G: -1
P: 0
G: -2
P
Lend
P: -1
G: 1
52
Other sources of funds, such as domestic
taxpayers, may not have an attractive exit option
(e.g., jail if don’t pay taxes)
Stop paying
taxes
Austerity, low taxes
C
Pay
taxes
G
High
spending,
high taxes
C: -2
G: -3
Stop paying
taxes
C: 1
G: -1
C: -2
G: -2
53
C
SOLVE!
Pay
taxes
C: -1
G: 1
53
Other sources of funds, such as domestic tax payers, may not
have an attractive exit option (e.g., jail if don’t pay taxes)
Government can then use spending to buy political support
Subgame Perfect Equilibrium:
• G: Spend, C: Pay if Austerity, Pay if
Spend
Austerity, low taxes
Stop paying
taxes
C
Pay
taxes
G
Continue
Spending,
high taxes
Lack of economic freedom
undermines political freedom
C: -2
G: -3
Stop paying
taxes
C: 1
G: -1
C: -2
G: -2
54
C
Pay
taxes
C: -1
G: 1
54
A generalized view of IPE actors
• Businesses & investors can influence
government (as can any other group)
• Governments can command and induce
businesses (as they can any other group)
• Capitalism can therefore protect or undermine
democracy, depending in part on the
distribution of economic resources and the
institutional environment
55
When actors have more influence
• Government relies heavily on actor’s loyalty
• Actor has viable exit options
– Investors: global capital markets enable exit by
withdrawing funds
– Citizens: competitive democracy enables “exit”
from loyalty to government if citizens can act
collectively
56
The latest: Anti-austerity SYRIZA party
poised to win Greek election on Jan. 25
Some takeaways
• Markets & states are substitutes: alternative
institutions for allocation & re-allocation of
resources
• Markets & states are complements:
– States (and interstate institutions) enable markets to
function, and
– Markets efficiently facilitate economic exchange for
states
• If current institutions deliver outcomes
unsatisfactory to actors, actors can sometimes
change institutions
58
Some more takeaways
• Actors with Exit options have more Voice if they
also have valuable resources
• Actors without Exit options (or w/o valuable
resources) may be resigned to Loyalty
• Democracy reduces transaction costs => Voice
• If Exit options for private resource-holders are
lacking, this may undermine democracy
• If a minority has most resources + Exit options,
this may also undermine democracy
59
More takeaways
• IPE affects economics and politics for everyone in
an increasingly globalized world
• The IPE method
– Actors’ interests => policy preferences, which interacts
w/ institutions to determine group formation.
– Groups then interact w/ institutions => policy
outcomes and/or new institutions
• The modern IPE method can capture the 3
traditional IPE schools and beyond
Final takeaways
• In Europe, everyone’s interests favored the
Euro, until the crisis.
– Rational?
– Imperfect information?
– Time horizons?