Lecture 1

Political Economy: An Introduction

• Economic and political systems often interact with each other.

• “Equilibrium” is an outcome of these mutual interactions.

"Labour party conference in recent weeks"

• • Immigration

  • Migration

In this module, we will examine the following:

• 1. Electoral rules, voting and their economic implications.

• 2. Political Reforms and their Economic Impacts - (gender)

• 3. Institutions and Development - (historical review)

• 4. Ethnic and Civil Conflict - (on economic condition)

• 5. Climate Agreements - (strategic national policy negotiations)

Democracy and Voting

Basic characteristic: citizens have a “voice” (vote).

• Direct democracy.

• Representative democracy.

• Political parties and candidates.

• Ideologies and private gains.

• Lobby groups - (interested in personal outcomes, social issues)

• Rules determining the outcome.

Comparative Statics: what if we made little changes to all of these, and how would this change the final outcome? 

Aggregating Individual Preferences

Some issues... (winter fuel, indefinite leave to remain)

• Condorcet’s Paradox: 

  • Condorcet showed that the majority of jurors are more likely to be correct than each individual juror, thereby making the case for collective decision-making. 

  • Condorcet's paradox builds upon his previous theorem and proposes that majority preferences can be irrational. 

  • Thus, Condorcet showed that while collective decision-making is preferable to individual decisions, there are still problems associated with it.

• Arrow’s Impossibility Theorem:

  • Arrow is generally credited for social choice theory but the groundwork was laid by Nicolas de Condorcet in the 18th century.

  • Arrow's book specifies five conditions that a society's choices must meet to reflect individual choices, they are:

1. Universality

2. Responsiveness

3. Independence of irrelevant alternatives

4. Non-imposition

5. Non-dictatorship

For a democracy to be effective and functional there must be a way to aggregate preferences.

Condorcet’s Paradox

• Suppose there are 3 options: A, B, and C.

• Say, there are 3 individuals in society.

• Individual 1’s preferences: A>B>C.

• Individual 2’s preferences: B>C>A.

• Individual 3’s preferences: C>A>B.

• A vs B? B vs C? C vs A?

• Rational Agents follow:

  • They have an objective, maximisation

  • Preferences are rational:

    • Transitivity. Follow that if they prefer one, then they'll be consistent with their choice throughout all scenarios and will not adjust. Either prefer one to another or are indifferent, there are rankings

    • Completeness: everything has a ranking

• Condorcet cycle: A>B>C>A.

• Condorcet winner: An alternative such that it gains a majority of votes when paired against each of the other alternatives. In this scenario, none exist.

• Even when individuals are fully rational, and transitivity rules, using the majority rule gives you an outcome which is not rational

Condorcet’s Cycles and Agenda-setting

•  The order of voting matters, the rules/procedure

• Suppose society first votes on A vs B. Then the winner against C. What is the final outcome? C

• Suppose society first votes on A vs C. Then the winner against B. What is the final outcome? B

• Suppose society first votes on B vs C. Then the winner against A. What is the final outcome? A

The people who decide which order we vote on things can end up with any outcome they want! Condorcet doesn't suggest this will always be the case but can occur.

Arrow’s Impossibility Theorem: Some definitions

• Arrow's generalisation of the theory of social choice asks whether it is possible to find a rule that aggregates individual preferences, judgments, votes, and decisions in a way that satisfies minimal criteria for what should be considered a good rule.

• Denote the set of alternatives by A, the members of society as G, and the social decision rule as >

• Rational preferences: complete and transitive.

  • Complete: for any two alternatives a and b in A, each individual in G has a ranking.

  • Transitive: a>b and b>c implies a>c, for each individual in G.

Arrow’s Impossibility Theorem: Assumptions

1. Universal Domain: All individuals in G have rational preferences over all the alternatives in A.

2. Pareto Optimality: If every member of G prefers a to b, then the social decision rule must prefer a to b.
   Even if everyone except for that one person agree on social decisions, that one person will halt any rule to change.

3. Independence of Irrelevant Alternatives: Take two different societies G and G’. If everyone in G and G’ have the same orderings of alternatives a and b, the social ordering between a and b must be the same in both societies, even if members of G and G' have different rankings over other alternatives.
   Don't include 'something' (social decisions) not involved in original options, even in their preferences would choose that 'something' if included in the list of options.

4. No dictatorship: There is no particular individual i such that the preferences of i determine the social ranking, regardless of the others in society.

Arrow’s Impossibility Theorem

There is no social decision rule > for any group G whose members have rational preferences, such that > is a rational ranking and simultaneously satisfies Assumptions 1– 4.

• Very powerful (negative) result!

• What does this result imply?
  To get a social ordering which satisfies all assumptions (Universal Domain, Pareto Optimality, Independence of Irrelevant Alternatives and No Dictatorship,) one must sacrifice transitivity.

• So, (Condorcet) cycles emerge!

• Arrow tried to find a rule which was immune to this issue, but failed, it may only be the case in some scenarios. The theory considers all sorts of individual choices, not just political choices. 

The people doing this were essentially applied mathematical theoreticians, they suggested adjustment of assumptions. 

• Therefore, selecting a social choice rule will always involve sacrificing or compromising among Arrow's five axiomatic conditions.

The Hotelling problem

• Two ice-cream vendors are on a beach.

• Say the beach is linear: think of the 0-1 interval.

• Customers are uniformly distributed along that interval.

• The vendors simultaneously select a position.

• Rational Customers: go to the nearest vendor.

• Each vendor wants to maximise its number of customers.

• Which positions will the vendors take up in equilibrium?

• Race to the middle (median)!