The state and the market represent two different ways of organizing human endeavor, and the relationship between them has always been a central preoccupation of comparative and international political economy.
When economics became its own specialist discipline with the marginal utility revolution it fell to political scientists to inquire more deeply into the relationship between politics and economics in shaping public policy outcomes.
For Peter A. Hall, the study of political economy is a specific social scientific inquiry into three particular types of issues: power, institutions, distribution.
In terms of explaining the political economy of European integration, what might this mean? Or, what type of research questions does it lead to?
What explains the decision by nation-states to increasingly transfer policymaking sovereignty to the European Union?
The PID in political economy
Let’s unpack the meaning of power, institutions and distribution.
First, when political economists systematically inquire into the politics of power they are inclined to ask: whose interests are being served by any given set of economic arrangements? For example, who benefits from the single market?
Whereas marginal economists tend to analyze the market and price formation in terms of Pareto-optimality, political economists tend to analyze markets in terms of whose interests are being served by a given set of public policy choices.
They are interested in the extent to which bargaining power is distributed across different social groups, and political and economic actors.
Second, political economists tend to analyze the market as a set of variegated institutions that adapt and mutate across time and space. Institutions are conceptualised as the “rules of the game“, which shape actor behaviour.
This mean that political economists tend to be more interested in concrete phenomena (the impact of EMU on member-states) rather than abstract theories.
Competitive markets are one way to allocate scarce resources in a society (and a very effective one) but their institutional formation differs, depending on the firm, sector and country, such that there can never be a “one size fits all” market explanation.
Third, political economists analyze the market as a human construct, whose conception is based on the primacy of politics. This means they are often interested in the distributive effects of capitalist markets and the power relations underpinning them.
Think about these questions in terms of the financial crisis.
What would be the implication of analysing financial markets as efficient systems setting optimal asset prices (such that risk is widely dispersed), as opposed to a set of unstable markets that serve certain interests over others?
In this module we are interested in the intersection between comparative and international political economy, as it pertains to European integration.
To explain this we are going to examine the relative role of interests, ideas and institutions. Think about this in terms of the following question (next weeks topic):
Why would nation-states give up monetary sovereignty?
Interest based approaches to European political economy give specific priority to the material interests of the core actors being studied. These interest based approaches can be divided into two schools of thought: producer groups and electoral politics.
- Producer group theories attempt to explain variation in economic policymaking preferences among governments. The unit of analysis is usually the nation-state (or the EU) whilst the central actors under study are producer group interests.
What is a producer group? How is it related to the factors of production?
To explain changes in economic policymaking (such as favouring the liberalisation of internationally traded services) researchers in this tradition tend to focus on the material interests of producer groups, and their relationship to the government of the state (such as the role of export employers in lobbying government).
- Producer group coalitions can be broken down in functional terms (workers, capitalists, farmers) or by specific sector (traded versus the non-traded sectors), or asset specificity (mobile versus fixed).
Research in this tradition has attempted to explain European integration by tracing government policy to the different producer group coalitions within a country (whether employers are predominately export led or focused on domestic demand).
More recently, a similar approach has been adopted to explain why countries and sectors adopt different position on international exchange rate regimes.
For example, why did Ireland and the Netherlands join the EMU whereas Sweden and Denmark did not?
All of these countries are small open European economies but with very different producer group coalitions.
Broadly speaking, the producer group perspective tends to explain domestic policy choices as a response by governments (and employers) to international economic change. Societal interest groups push their economic preferences, and governments aggregate these preferences, and use them to formulate bargaining positions.
Economic policymaking is often conceptualised as a form of “organised combat” among competing producer interest groups. This approach has three powerful advantages.
First, it recognises that change in domestic economic policy must win the support of broad segments of society. Think about Italy in this regard. Governments are heavily dependent upon winning the support of different producer group coalitions (taxi-drivers, chemists, trade unions, small businesses) and economic reform is unlikely to be successful if the government does not win the support of these producer group interests.
Second, it highlights that politics is always a struggle over economic resources.
Third, it combines the study of comparative politics with international relations and therefore provides a causal mechanism often lacking in the latter when trying to explain the ‘domestic’ mechanism of change (i.e. why countries push for European integration).
But this perspective also has serious shortcomings.
It tends to not take electoral politics very seriously. Political parties are considered the agent of producer groups, and therefore lacking autonomy. But think about Brexit. The Tory government have pursued a policy, which dominant business interests tend not to want. This would suggest that the Conservative party are responding to something else.
Who are they responding to? Voters? Conservative party elites?
- The second school of thought in interest based approaches to explaining patterns of economy policymaking is the ‘electoral approach’. Individuals in the electoral arena, rather than producer groups, are seen as the central actors. Change can be explained by politicians reacting to the electorate in seeking re-election.
Economic policy in this regard is often explained by the political business cycle.
Politicians, it is assumed, think only in the short-term and therefore economic performance will always be sub-optimal. They will pump prime the economy prior to an election. But this will vary by government and party partisanship.
Left-leaning and right-leaning governments, it is argued, behave differently. Left governments should make policies that lead to higher inflation and lower unemployment. Right governments will cut welfare expenditure and taxes.
More recently, the electoral approach has been conceived systematically in terms of the “supply/demand” of party politics, and best articulated in the constrained partisanship model (Beramendi et al 2015) you read for class this week.
What does the supply and demand of electoral politics mean? How does this relate to preference formation when it comes to understanding European integration?
The electoral approach has two significant strengths.
First, it is reasonable and obvious to assume that the first priority of politicians is to seek re-election, and will pursue policies that represent their core constituencies.
Second, politicians often do stimulate the economy unnecessarily before an election, and there are embedded policy regimes. One only has to think about successive FF governments in Ireland and the regular patterns of pro-cyclical fiscal policy governance.
But there are three limitations to this approach when it comes to European integration.
First, governments regularly pursue medium to long-term objectives, despite short-term electoral incentives, such as delegating monetary sovereignty to central banks.
Think about the policy response to the crisis in the Eurozone. Did governments put their own re-election interests first? Was it governments who designed the policy response to the euro crisis?
Second, it is analytically attractive to assume a ‘median voter’ and a homogenous electorate with fixed preferences. But politics is far more complicated, as outlined by Beramendi et al. Voters do not often voter in their own material interests (think about this in terms of income distribution i.e. why don’t the poor soak the rich?).
Similar to a lot of rational expectations economic models, what the electoral approach makes up for in methodological parsimony/clarity it often lacks in empirical validity.
However, as discussed last week, the European Union is becoming increasingly important in shaping electoral preferences. It is becoming politicised, and it’s impossible to ignore the central role of electoral politics in shaping the trajectory of integration.
Institution based approaches generally seek to explain variation in economic and employment policies by examining the causal influence of the organisational structure of the economy on government choices. More often than not, interest based approaches are complemented by institutional based approaches (i.e. constrained partisanship).
The unit of analysis is the nation state and the principal actors are important organised interest groups such as trade unions, employer associations, and the corporate firm. But more recently, and as outlined above, electorates are bring in as the agent of change.
Institutions, it is argued, shape, enable and constrain the behaviour of actors.
Unlike neoclassical economics the institutional approach emphasises the institutional differences across nations over time. The impact of globalisation will be mediated differently depending on the domestic structure of the economy.
These differences, it is argued, give rise to qualitatively distinct varieties of capitalism, which, in turn, result in distinctive patterns of economic policymaking.
To date, there have been two broad schools of thought in the institutional approach to explaining European political economy: neo-corporatist and varieties of capitalism.
- Neo-corporatist’ research traced differences in macroeconomic performance to whether trade union and employer associations were either centralised or de-centralised.
- Centralised trade unions and employers were capable of internalising the inflationary pressures associated with full employment, and can pursue wage-restraint in response to European market integration.
This theoretical school of thought was particularly important in the aftermath of the oil crisis shock in the late 1970’s and in the period of high inflation.
Over time the emphasis was placed on the extent to which employers and trade unions could engaged in long term coordinated wage-setting, which is particularly important in the context of adapting to the European monetary union.
Some scholars emphasised that it was predominately small states operating in a global market who constructed corporatist institutions; whether trade unions were export-led or not; and the extent to which left-leaning parties were in government.
Why might small states have a preference for social partnership? Or why might small open economies have larger public sectors and welfare states?
Varieties of capitalism
- From the early 1990’s it was gradually recognised that the structure of political economies were also related to the structure of industrial relations, vocational training, labour markets corporate governance and the financial system.
- Each sub-sector complemented each other to create distinct “systems” of organising the economy, giving rise to different European models of capitalism.
For example, countries such as Germany had banks oriented toward the long-term financing of industry, with the implication that corporate strategies and patterns of economic policymaking were quite different from those countries with short-term finance and heavy reliance on stock market valuations (UK/USA).
All of this led to the varieties of capitalism school of thought (Hall and Soskice 2001)
Institutional structures interact in complex ways across different sub-policy spheres of the economy to create a matrix that shapes the strategies/policies of both firms and government. The institutional approach has three powerful advantages.
First, it moves far beyond those conventional economic analyses that assume a one-size fits all strategy of adjustment to European integration (and financial liberalisation).
Second, it identifies the strategies of firms as central to the analysis of political economy.
Third, it highlights the importance of strategic interaction (game theory) in shaping patterns of economic policymaking.
However, there are three serious limitations to the institutional approach.
First, it tends to underplay the importance of conflict in capitalist market economies.
Second, it has a tendency to downplay the importance of the state.
Third, methodological, it risks becoming tautological in the sense that we can end up with just as many varieties of capitalism as nation-states.
It is generally better equipped to explain stability than change.
How might a VoC approach explain the different preferences member-states have to more or less European integration? For example, the difference between France and Germany when it comes to issuing a single euro-bond?
Ideational based approaches generally seek to explain change by examining the causal influence of economic ideas. There are three different approaches to this.
- First, some scholars incorporate ideas into interest based approaches by analysing the importance of ‘focal points’.
Ideas act as focal points around which collective action problems can be resolved. Garrett & Weingast (1993) employ this approach to explain why nation-states converged on a particular kind of approach to European integration, by examining what enabled different governments agree to the shape of the single market (1986).
In this approach, material interests are the primary causal factor to explain why member-states choose to liberalise trade but ideas act as focal points that enabled conflicting political actors to reach shared agreement on a similar course of action.
- Second, some scholars, such as Mark Blyth, give ultimate causal priority to the role of ideas and elites in explaining why government choose a given set of economic policies. It is the ideas that elites have that really matters.
This approach tends to give priority to the importance of professional economic communities. Think about the role of economists in the Ministries of Finance (or think about the shift toward monetarism in the Bank of England).
Would Ireland have gotten rid of protectionism if TK Whitaker was not the secretary general of the Dept of Finance?
Ideas are assumed to be formed or influenced by elites and epistemic communities.
These elites hold a certain worldview, which they implement when they are in positions of state power, where they can effectively translate their ideas into policy.
- Third, other scholars go behind the specific importance of ideas to give causal priority to cultural variables.
Different economic ideas are cultural world-views and deeply intwined in national histories and language. In a sense, one can think about this approach in terms of the strong anti-inflation stance in Germany, or their strong moral dislike of debt (schuld), which directly translates into ‘guilt’ or ‘responsible’.
Cultural based political economy gives priority to the way different kinds of knowledge and information are distributed in particular sectors of the economy.
The problem with ideational explanations is that it is not clear whether it is norms, ideas, discourse, interests, culture or ideology that is the causal factor behind economic policymaking. Trying to disentangle ideas from material interests is not easy.
Material interests are a lot easier to “model”, which is why social scientists tend to focus on interests and preference formation, over the role of ideas and culture.
But ideas clearly matter in shaping economic decision making, and this is reflected in the policy preference for a particular kind of adjustment package in Europe today, or is it?
Is the European path of adjustment (austerity) the outcome of ideas, structural institutional constraints or the interests of larger member-states, such as Germany?
These three approaches to studying political economy can be broadly applied to the study of European integration, but clearly need to be made more precise, and specific, in order to develop empirical hypothesis to be tested against real-world cases.
How do ideas, interests and institutions relate to Moracvisk’s original theory of liberal intergovernmental explanations for European integration?
But in terms of assigning relative priority to different socioeconomic variables these different approaches also lend themselves to different causal propositions.
Think about this in terms of the the broad paradigm shift toward, and subsequently away from, aggregate demand policies associated with the Keynesian welfare state, or in terms of the present trajectory of European monetary integration.
- Interest based scholars focused on coalition building among farmers and industrial workers, particularly in France and the UK.
- Institutional scholars emphasise the different strategic capacities of the state to engage in public investment.
- Ideational scholars emphasised the role of epistemic communities among economic professionals in the state.
In many ways these different approaches reflect a difference between positivistic and cultural oriented approaches to causal inference in the social sciences.
This can be reflected in how certain variables such as ‘institution’ are conceptualised.
There are three school institutionalist analyses: historical, rational-choice and cultural.
For historical institutionalists (HI’s), institutions are a path dependent set of rules and procedures embedded in the organisational structure of the polity or political economy. Paul Pierson, whom you read this week, applies this to explaining EU integration.
It is not easy to change path, once a given set of policies/Treaties are implemented.
HI’s tend to emphasise the asymmetries of power associated with the origins (critical junctures) and development of institutions. Institutions are a calculus that shape and constrain the actions of governments and firms.
What policies governments can or cannot pursue is dependent upon the broader institutional structure of the economy.
In Ireland, this means that government economic policy is shaped by the path dependent effect of its heavy reliance on foreign direct investment (FDI).
- Think about it this way: is any government likely to increase corporate tax rates in Ireland? Why not? One can hypothesise that no government is likely to risk undermining a core comparative advantage of its export sector.
Institutions are the functional rules of the game that reduce transaction costs. This tradition draws upon a Williamson approach to ‘new economics of organization’.
Douglas North developed these arguments and applied them to political institutions.
More recently, many EU scholars use this approach to model decision-making in game theoretic terms, particularly in trying to explain why nation-states delegate sovereignty and decision-making to international organizations.
This approach has four relevant features.
- First, actors are generally assumed to have fixed preferences and always attempt to maximize these.
- Second, they see all politics as a collective action dilemma.
- Third, all behavior is driven by a strategic calculus.
- Finally, institutions are formed to facilitate co-operation.
Norm based, or sociological institutionalism, also has four distinctive characteristics.
- First, institutions are more than just the rules of the game with an instrumental purpose. They are symbols, values, scripts, procedures and norms of appropriateness that give meaning to human action. Think about why we wait at a red light when the road is quiet (well, at least they do in Germany).
- Second, institutions matter because they prescribe norms of behavior. In the EU Council member-states adopt a norm of consensus rather than strategic calculation.
- Third, they highlight the interactive and mutually constitutive character of decision-making.
- Finally, institutions emerge less because of a means-ends calculation but because they give legitimacy to human endeavour.
Which of these ‘new institutionalist’ approaches are better placed to explain the trajectory of European integration?
The obvious functional answer as to why nation-states would transfer sovereignty to the EU is that are the large material gains to be made from exchange and liberalisation: time inconsistency, incomplete contracting, productivity and employment gains.
But this is only part of the story.
History and ideas played an important role, particularly the importance of new classical economics, which effectively ruled out any beneficial role for governments in the macro economy, and depoliticised demand management.
We will discuss this in more detail next week when we analyze the costs and benefits of establishing the single currency in Europe.
For the remainder of our course, I want you to think about the interaction between interests, ideas and institutions in explaining the trajectory of European integration.