Abstract
European policy makers, notably in the euro area, seem to take for granted that the electorate will punish them for bold reform in product and labour markets. This may explain why progress in the euro area has been comparatively limited. This paper posits and, using a dataset for 21 OECD countries, shows that this fear of electoral backlashes is unfounded, provided that financial markets work well. The mechanisms involved are relatively straightforward: well functioning financial markets “bring forward” future yields of structural reform to the present, thus permitting to overcome possible short-run costs. As a result, the electorate tend to reward, not punish, reformist governments. This has important implications for the design of structural reform packages, with financial market reforms being an essential ingredient beside product and labour market reforms.
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Notes
See e.g. European Commission (2003) for a survey.
Simulations based on a small scale econometric model contained in IMF (2004) show that product and labour market reforms take time to produce positive effects on output.
Thygesen (2004) attributes super-Say's Law to Val Koromzay, a former Director in the Economics Department of the OECD.
It does not matter for the result of the analysis whether this random development is assumed to be caused by the structural reform or, alternatively, assumed to be an exogenous adverse demand shock that changes the electorate's view on the desirability of the reform. See for an example of the latter interpretation Poplawski Ribero and Beetsma (2006).
The countries are Australia, Austria, Belgium, Canada, Denmark, Finland, France, Germany, Greece, Ireland, Italy, Japan, Netherlands, New Zealand, Norway, Portugal, Spain, Sweden, Switzerland, UK, USA.
The source of the reform indicators is Duval (2005), where the product market regulation indicator was de-trended and all the indicators were standardized across the countries considered in order to allow an easy interpretation of results.
Probit random effects are chosen instead of fixed effects due to the biasedness of the regression coefficients of unconditional fixed effect probit models. Random effects appear to have a borderline statistical significance and are therefore not kept in our baseline specification.
The variables that are interacted with the reform dummy are standardised in such a way as to have zero mean and unit standard deviation. Hence, regression coefficients for the interacted reform variable are interpreted as the change in the regression coefficient associated with a one-standard-deviation change of the interacting variable compared with sample mean.
More precisely, explanatory macroeconomic variables are averaged over all the years between the election year and the first year in office, extremes included. Weighting the boundary values with the number of months of actual government (after and before elections were held) didn’t substantially change the results.
For further information, see Appendix 1, Area 5 in http://www.freetheworld.com/release.html.
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Acknowledgments
The authors gratefully acknowledge the stimulating comments received while presenting their paper at the Annual Meeting of the Austrian Economic Association on ‘10 years EMU’, Vienna, 23–24 May 2008. All errors and omissions are the authors’.
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Statistical appendix
Statistical appendix
1.1 Re-election variables
All re-election variables have been constructed using data on elections and on information on the chief executive, its party and the main party in the parliament obtained from the World Bank Database on Political Institutions (Beck et al. 2001). They are dichotomic variables focusing on the tenure of a specific political force and its ability to be reconfirmed after an election. The baseline re-election variable is defined as follows:
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1 if an election (either Parliamentary or presidential) takes place in year t and country i and the same government’s chief executive that was in power in year t is also in power in year t + 1.
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0 if election takes place in year t and country i and the government’s chief executive that was in power in year t is not anymore in power in year t + 1.
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Missing if no election takes place.
An alternative re-election variable, including also the cases in which the identity of the government chief executive changes, is defined as follows:
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1 if an election (either Parliamentary or presidential) takes place in year t and country i and the same government’s chief executive that was in power in year t is also in power in year t + 1 or if the new chief executive officer is different but belonging to the same party as that of the government’s chief executive that was in power in year t.
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0 if election takes place in year t and country i and the government’s chief executive in power in year t + 1 belongs to a party that is different than that of the government’s chief executive that was in power in year t.
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Missing if no election takes place.
Finally, we analyse the determinants of governments’ chief executives’ tenure irrespective of the occurrence of election. In this case, the variable is defined as follows:
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1 if in year t and country i the same government’s chief executive that was in power in year t is also in power in year t + 1.
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0 if in year t and country i the government’s chief executive that was in power in year t is not anymore in power in year t + 1.
1.2 Reform variables
Our baseline reform variable is that used in Duval (2005). If focuses on five policy areas: unemployment benefit system, labour taxes, employment protection legislation, product market regulations, retirement schemes. For each one of these an index of market rigidity has been constructed, with higher values indicating a higher degree of anti-competitive regulation, and standardized to allow an easy interpretation of the results. In addition, an overall index of rigidity was composed as sum of the five indicators for each policy area.
A reform is interpreted as a significant change in either one of these policy areas. We therefore calculate the median negative change of each index in the sample, representing a policy change that, among those that contribute to reduce market rigidity, is between the 50% more and 50% less ambitious policies. The reform variable is a dummy taking value 1 whenever for at least one of the five policy indicators, there is a change below the median negative change.
An alternative reform dummy was constructed following a more demanding criterion. In this case, indicators of market rigidity need to undergo a negative change which is, in absolute value, above two standard deviations of the distribution of the same indicator.
1.3 Financial variables
To capture the degree of anti-competitive regulations in financial markets we use the indicators of financial freedom made available by the Fraser Institute.Footnote 11 The indicator measures, on an inverse scale, the degree of anti-competitive regulations in four areas: bank ownership, foreign bank competition, private sector credit, interest rate controls.
1.4 Macroeconomic variables
Cyclical conditions are represented by the output gap while the fiscal stance net of the economic slack is captured by the cyclically adjusted primary balance, both estimated by the OECD (2007). From the same source is the inflation, calculated as the percentage change of CPI.
1.5 Political variables
All the variables used in the regression as political controls are taken from the World Bank Database of Political Institution (Beck et al. 2001).
1.5.1 System dummy
Parliamentary (1), Presidential (0)
Systems with presidents who are elected directly or by an electoral college, in cases where there is no prime minister, receive a 0. In systems with both a prime minister and a president, the following factors are used to categorize the system:
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a.
President can veto legislation and the parliament needs a supermajority to override the veto.
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b.
President can appoint and dismiss prime minister and/or other ministers.
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c.
President can dissolve parliament and call for new elections.
Countries in which the legislature elects the chief executive are parliamentary, except in the case in which it cannot easily recall him (if they need a 2/3 vote to impeach, or must dissolve themselves while forcing him out).
1.5.2 Proportional representation dummy
“1” if candidates are elected on the basis of the percent of votes received by their party. “0” otherwise.
1.5.3 Dummy for executive party controlling all houses
“1” if the party of the chief executive has an absolute majority in the houses that have lawmaking powers; “0” otherwise.
1.5.4 Winner-take-all dummy
“1” if “plurality” system, i.e. legislators are elected using a winner-take-all/first past the post rule. “0” otherwise.
1.5.5 Opposition fractionalisation
The probability that two deputies picked at random from among the opposition parties will be of different parties. If there are any opposition parties where seats are unknown, the variable is missing.
1.5.6 Margin of majority
Fraction of seats held by the government. It is calculated by dividing the number of government seats by total (government plus opposition plus non-aligned) seats.
1.5.7 Longest tenure of a veto player
Measures the tenure of the veto player with the longest tenure. In presidential systems, veto players are defined as the president and the largest party in the legislature. In parliamentary systems, the veto players are defined as the prime minister and the three largest government parties.
1.5.8 How long has the country been democratic?
This variable records how long parties and prime ministers have been competitively elected.
1.5.9 Maximum polarization between the executive party and the four principle parties of the legislature
It is zero if the chief executive’s party has an absolute majority in the legislature. Otherwise it is the maximum difference between the chief executive’s party’s value in a left–right political scale and the values of the three largest government parties and the largest opposition party.
1.5.10 Percentage of veto players leaving the government
This counts the percent of veto players who drop from the government in any given year. The larger the number of veto players leaving the government in a given year and country, the lower the degree of control exercised by the government on the legislative or the executive power.
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Buti, M., Turrini, A., van den Noord, P. et al. Defying the ‘Juncker curse’: can reformist governments be re-elected?. Empirica 36, 65–100 (2009). https://doi.org/10.1007/s10663-008-9093-0
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DOI: https://doi.org/10.1007/s10663-008-9093-0