Policy Making
2. A model of economic policy making

Many citizens view their politicians as servants of special interests, easily corrupted and inclined to make deals that compromise the interest of those who elected them. But then next season those same citizens elect the same or similarly corruptible souls, and pay them big money to shower affection on their policy issues-which are of course honest and not corrupt. One of our colleagues, John S. Nelson, a political scientist at the University of Iowa, has dubbed such attitudes and behavior ironic politics. It's not a strictly American thing, this ironic politics, this combination of selfishness and cynicism in the politics of economics under democracy. Rich or poor, the British have been known to complain about their political environment, and Nigerians have of late joined Italians in seeing their politics as an exercise in Dadaism (or anyway Neo-futurism with frequent random shocks). The supposed unreliability of democracy and the battle of big versus small government was a life-long concern of a great Austrian economist, Ludwig von Mises: "Once you begin to admit that it is the duty of the government to control your consumption of alcohol," von Mises asked, "what can you reply to those who say the control of books and ideas is much more important?"

Von Mises' point is uncomfortably familiar to a generation raised on both the Internet and the Patriot Act but in truth the point-that some government control leads to more government control-is age-old. It's as true for individuals in power as it is for groups. To get around the supposed unreliability of democracy the 4th century B.C. philosopher Plato envisaged rule by "philosopher king." (He had in mind at least one good candidate for the job.) His pupil Aristotle (who himself became the private tutor of the Macedonian king and world-beater, Alexander the Great) disagreed with him. Wrote Aristotle, "This is why we do not allow a man to rule, but rational principle, because a man behaves thus in his own interests and becomes a tyrant."

Two thousand years later, Platonic doubts about philosopher-kings were shoved aside by larger doubts some have about democracies shaped by "expert" opinion. Herbert Stein (1916-1999), a noted economist and policymaker, expressed his skepticism in an amusing syllogism: "1. Economists [as experts] do not know very much. 2. Other people, including the politicians who make economic policy, know even less. [I conclude that] These [two] beliefs do not provide a platform from which to make strong pronouncements about economics or economic policy".

Today it would seem that of the field, Plato is winning. The modern equivalent of Plato's philosopher king is the expert. "Everything will be all right," many of we moderns think, "if we will just allow the exxxperts to tell us what to do." "I've got a back ache, and want a pill," you say. But which pill? "Ask the expert." " I need a solution to creeping inflation," the Fed Chairman says. But which pill? "Ask the expert." When times are really tough the question-response pair appears an infinite series.

What would happen if expert economists were in charge of economic policy? Would they help to make a more rational policy?

The Tinbergen Model

Jan Tinbergen (1903-1994), a Dutch economist and winner of the first Nobel Prize in economics, has sketched a model of how to think about policy-making using the foundations of rational choice theory, in a context in which economists function as experts. The model will sound immediately familiar to those who recall the model of rational consumer choice we studied in Chapters 2 and 3. Tinbergen's model distinguishes the subjective realm of political "preferences" from the objective realm of the "constraints" imposed by economic reality and policy tools (ye olde normative/positive distinction). For simplicity, we can state that Tinbergen's model is about tastes, constraints, and tools, much like the model of rational consumer choice. Figure 33-1 illustrates the basics.

Figure 33-1 Tinbergen's model of rational economic policy
  • Tastes ('Subjective' Political Realm)
    • Ultimate Policy Goals
      - Political preferences are expressed in the ultimate goals of policy, determined by politics.
  • Constraints and Tools ('Objective' Realm of Economic Reality)
    • Intermediate Targets
      - These are the economic factors or magnitudes (such as the short-term interest rate) that economic theory indicates we should try to affect. By affecting them through policy instruments we try to achieve the ultimate goals.
    • Policy instruments
      - These are the specific means available to policy makers to affect the intermediate targets, such as the Federal Funds rate.