International Political Economy

Assist. Prof. Dr. B. Müge TUNAER VURALhttp://kisi.deu.edu.tr/muge.tunaer

Room #: 217

What is Political Economy?

• Various Approaches:– Interaction of politics and economics,– How does politics affect economic outcomes?– Explaining political theories with economic

models..• First Political Economists:– Adam Smith, David Ricardo.. J. S. Mill– Political factors are crucial in determining

economic outcomes

Division of Politics & Economics

• Economic models are abstracted from political and institutional factors,

• For the sake of methodological progress,• Neo-classical school,• Optimisation unders constraint..

Political EconomySome Definitions

• Economics is the science which studies human behaviour as a relationship btw. ends and scarce means that have alternative uses (Robbins, 1932)

• Political nature of decision making: How politics affect economic choices?

• Politics: power (ability to achieve outcomes) & authority (exists whenever one, several or many people permit someone else to make decisions for them in some category of acts).

Heterogeneity of Interests

• When there is conflict of interests, how does a society make collective decision,

• Several mechanisms for collective action,• Once the optimal policy is found it is

implemented,• Optimal vs. Actual policy,• How political constraints may explain the

choice of policies that differ from optimal policies?

Some Examples

• Opportunistic political business cycle => pre-election economic policies and outcomes influenced by the desire of the incumbent to manipulate the economy in order to improve his reelection prospects.

• If on the other hand, policies are made by an infinitely lived social welfare maximising planner, who was sure to retain his job..?

Some Examples -2-

• An economy experiences hyperinflation, reduction in budget deficit is needed..How to cut the budget?

• Transition of the formerly socialist CEEs,

Main Theories of Political Economy

• Social Choice Theory: nature of choice in economic and political context

• Game Theory => Game theoretic models of political institutions

• Collective Action Theory: Cooperation & coordination

How does politics affect economic outcomes?• Montchrétien (1615)– Free trade for agriculture,– Gov’t control on industry,– Population should grow:• Labour force ↑ w↓ profits↑ => cost of wars would be

met rather easy!

• Merchantilism => Capitalism• Feudalism => Nation State

The Mercantilists’ Views on Trade -1-

• The more gold and silver and a nation had, the richer and more powerful it was.

• Thus the way for a nation to become rich is to export more than it imported.

• The resulting export surplus would then be settled by an inflow of bullion or precious metals such as gold and silver.

• Thus the mercantilists advocated restrictions on imports and incentives for exports.

The Mercantilists’ Views on Trade -2-

• A nation can gain in international trade only at the expense of other nations.

• i.e., “Trade is a zero-sum game.”

Criticism: (1) The measure of the wealth of a nation? (2) Rulers vs. common people • Mercantilism is Alive and Well in the Twenty-

First Century

Physiocrats: Liberal Ideas against Merchantilism -1-• François Quesnay: 1694 – 1774• Rule of nature: natural order against to

artificial systems,• Tableau Economique: depicted the circulation

between the three main classes of the economy:– Productive class– Proprietor class– Sterile class

Physiocrats: Liberal Ideas against Merchantilism -2-• Productive Class: Capitalist entrepreneurs

who rent land and hire workers,– Agriculture constructed under capitalistic

methods,– They produce the net product /surplus above

what is consumed in production.

Physiocrats: Liberal Ideas against Merchantilism -3-• Class of Proprietors: landowners, lords..

Obtaining profit created by the productive class, rather than engaging in productive endeavours.

• Sterile Class: Unproductive class..only add to the value of raw materials, that are supplied by the productive class,

Physiocrat Theories

• Theory of Production

• Theory of Distribution

• Theory on Taxation

Contradictions of Physiocracy and the Emergence of Classical School

• Divide between productive and sterile,• The pivot of the capitalist economy: surplus

value,• But what constitutes value?• Farmers consume agricultural products to

produce more agricultural products,

Classical Views -1-

• Adam Smith: “Political Economy” = science of legislation (statesman) has two purposes:

– Enable people to provide revenue for themselves,

– Supply the state with a revenue sufficient for public services..

Classical Views -2-

• Enrich people , but how?• System of commerce and agriculture..– It’s consumable g&s what feeds the army, not

money itself => It is not the amount of money in circulation, but the quantity of g&s what matters..

– Even if exports of gold and silver (import of g&s) are prohibited, smuggling is still possible. When there is smuggling, g&s imported becomes more and more expensive => t.o.t. Deteriorates => loose even more gold and silver..

Arguments addressed by Merchants to Parliaments

• How beneficial can be free trade for the country and people?– Merchants pursue their own interests– Foreign trade brings money into the country

• Re-exporting: Mun’s Example=> “actions of the husbandman in the seedtime”,

• Smuggling: money remains in the country, in the hand of bankers who carry the risk.

David Ricardo

• Comparative Advantage: Division of labour on a global scale,

• Portugal – United Kingdom,• Atlantic Triangle: England sells cotton and

weapons to buy sugar and tobacco, West Africa sells slaves to buy cotton and weapons, the Carribean sells sugar and tobacco to buy slaves.

• 1776 – American Revolution• 1789 – French Revolution• Friedrich List: – Free trade is British rule over the global economy. – Political independence requires economic

independence. – Protectionism and state regulation

Development of Neo-Classical Economics

• Stress on optimisation under constraint,• Constraint: Limited resources,• Consumer optimum• Producer optimum• Ignores political factors and institutions

New Political Economy• Much recent work on income distribution,

education, public services, etc.

• New vs. Old: still focus on how politics affect economic outcomes.

• Different Approach: use tools of modern economic analysis to look at the importance of politics for economics

Political Economy

• Interaction of politics and economics: all inclusive but no real sense,

• Economics: study of optimal use of resources,• Political Economy: deals with the political

nature of decision making and concerned with how politics will affect economic choices in a society– Social groups, firms, other organisations

What are the mechanisms for collective action?

• How power and authority are attained and exercised?

• Remember heterogeneity of interests: conflict in interests of economic actors in a society, i.e. agricultural vs. industrial producers, producers vs. consumers.

Positive vs. Normative Economics

• Positive Economics: policy choice is a technical / computational thing!

• Normative Economics: under the existing political constraints, how can the societies achieve specific economic objectives?– How to overcome political constraints?– Design of political institutions to better achieve

economic objectives.