Setting economic policy is hard. There are all sorts of reasons for this. For a start, the exact economic impact of any particular policy lever, interest rate change, law, or tax tweak is rarely entirely clear. Well-credentialed and good-meaning experts can, and do, disagree on the likely impacts. The responses to the Clark Center’s polls of Experts regularly show differences of opinions and large degrees of uncertainty. Even when the experts do agree on the impact of a proposed set of policies, their own view of whether it is worth doing it or not will be shaped by their own value judgments on, say, the appropriate trade-off between inflation and unemployment.
To that fundamental uncertainty can be added the lack of useful real time information about the current state of the economy. In his memoirs, Alan Greenspan wrote that looking at the state of a modern economy is something like watching an old-fashioned polaroid photograph develop. The picture starts off blurry and only gradually comes into sharper focus. Official economics take weeks, or sometimes months, to compile and even then is subject to revisions as more information becomes available. A veritable blizzard of more timely data is available but it is usually less comprehensive and often contradictory. Simple factual questions such as “what is the current state of the American jobs market?” or “how fast is European inflation falling?” can provoke debate.
All of those factors would already be enough to make the job of setting economic policy far from straightforward but anything else was added into the mix. What makes the mix especially complicated, and the job even trickier in many countries, is the fact that high-level policymakers are just as subject to political as economic pressures.
The need for politicians to win re-election is yet another factor making the job of managing the economy trickier. For a start, the typical voter almost certainly functions on a different time horizon to an economic expert asked for their best view. If a particular project would involve the incurring of costs for 5-10 years before paying off then it may be less appealing to a voter weighing up in the here and now than an expert looking at the overall impact over the project’s life cycle. Politicians are often accused of having an overtly short-term view, but if this is indeed so they are simply responding to the incentives provided by their underlying electorate.
What is more, there is plenty of empirical work that suggests that voters often care much more about losses than gains. That is a factor that really complicates the political economy of setting economic policy and especially when the losses from a change are more concentrated than the gains. Take, as an example, a hypothetical course of action that would make 10% of voters $1,000 a year worse off but make the remaining 90% $200 a year better off. In aggregate, one might argue that clearly, the overall impact on the economy would be positive. But a politician might, perhaps rightly, argue that the 10% of losers would care a great deal more than the 90% of winners. The net impact could well be negative for their re-election hopes. Those example numbers are obviously an extreme case but not too far removed from how economists might consider a trade deal. It is perfectly possible, for example, that a free trade arrangement may lead to some job losses in the short run. Even if the net result was cheaper goods for households in the aggregate and those who lost their jobs were able to find new employment in a healthy, expanding economy they still might weigh the initial loss more highly when it comes to voting behaviour.
Economists have long worried about democratic societies producing a deficit bias in fiscal policy on the grounds that voters quite like the idea of both tax cuts and more spending in the short run at the expense of higher debt interest costs in the future.
More broadly there are plenty of policies that appear to offer a tangible benefit to some voters in the short term at a longer running cost to overall economic health. Subsidies are an obvious example, it might be easy – and correct – for economists to argue that removing, say, agricultural subsidies will lead to a healthier economy (in aggregate) in the longer run but those at risk of losing their cash in the short-term will not reward politician for taking it away.
An excellent set of joint work by the Clark Center and the Wall Street Journal (subscription required) brought home how tricky the politics of the economy can be last month. The WSJ polled 750 representative voters on various policies offered by the Harris and Trump campaigns, whilst the Clark Center asked its US Economic Experts Panel the exact same questions.
As the Journal reported:
“Economists and ordinary people often seem to inhabit different planets, but seldom has the chasm been this wide.
As former President Donald Trump and Vice President Kamala Harris compete for any possible edge in a tight election, they have offered a plethora of ideas that, while delighting voters by varying degrees, have appalled economists because they would distort markets or deepen America’s fiscal hole.”
As an example, not taxing tips – originally proposed by Trump and later backed by Harris – won the support of four-fifths of voters but was opposed by 87% of economists. Most starkly, 47% of voters support the notion of a 20% tariff on all imports but 100% of the economists polled believed this to be a bad idea.
It is sometimes very easy for economists to look at the ideas coming out of political campaigns and react with despair. But they, above all people, should remember that actors generally respond to incentives. And the incentives for vote-seeking political leaders do not always map especially well onto the best course for the economy as a whole.
