When we look “out the window” and observe political economy in action, what is a useful method for understanding and explaining the outcomes? The framework that Wayne and I develop in the book begins by explaining observable outcomes as the product of incentives, and incentives are in turn shaped by institutional rules. So far that’s pretty standard stuff, thanks to the work of Douglas North and others. These days, political economists today are familiar with the incentives-institutions approach and they use it widely and deeply.
For example, Daron Acemoglu’s and James Robinson’s book, Why Nations Fail, explains how the most proximate cause of the wealth of nations is the extent to which people in economic and political settings have good or bad incentives. In turn, whether incentives are good or bad generally depends on the quality of institutions. When rulers establish inclusive political institutions, ordinary people have good economic incentives and the pursuit of self interest results in something like an invisible hand story. The nation will succeed. But when rulers establish extractive institutions, ordinary people don’t incur the costs or reap the benefits of their own behavior, and the pursuit of self interest fails to generate mutual gains. Less wealth is created, more of the wealth that is created lands in the pockets of rulers and their supporters, and the society stagnates rather than prospers. The nation fails. Institutions matter! And that’s an extremely important message that the field of economics has been able to pin down over the past 3-4 decades (ironically by returning to a set of questions that’s over two centuries old).
Okay. So here’s the next question: if outcomes depend on incentives, and incentives are embedded in institutions, then where do institutions come from?
To put that more concretely, which figures in a society decide whether institutions are extractive or inclusive? What are the constraints on these decision makers? And what forces have the potential to perturb those constraints over time, so that the choice of institutional rules in turn changes over time?
The framework in Madmen provides answers to these latter questions. We follow political economy’s lesser-known tradition of arguing that institutions are shaped by ideas. And to explain how ideas shape institutions, we introduce political entrepreneurs — namely academic scribblers, intellectuals, and madmen in authority.
To oversimplify, the structure of political change can be stated in a linear fashion: political entrepreneurship –> ideas –> institutions –> incentives –> outcomes.
We contend that every topic under the political sun follows this chain, although obviously not in such clean and detectable ways. One policy area that does cleanly reflect all the elements of this framework (although still not linearly) is eminent domain–i.e., governments’ powers to take private property for public use while compensating the owners. In this mini-series of posts, I will show how. My twofold goal is to illustrate our framework and shed light on some under-appreciated aspects of the topic. More on this
tomorrow in my next post (ADDENDUM: I shouldn’t say “tomorrow” when there is some chance of not posting the next day. Sorry about that. The next post in this series is coming soon.)