Running out of other people’s money, continued…

The French newsmagazine Challenges recently released a very interesting poll. It asks people what kind of reforms of the welfare state they are willing to go ahead with. Most of the reforms proposed in the poll are cost-saving, and a number of them should have some effects on incentives.

The results match closely what a cynical believer in Homo Oeconomicus would have predicted. The fraction of French people who support a given reform is very close to the fraction of people who do not lose from it upon impact. For example, 80 % of the French support a means-tested child benefit system — and the proposed means-tested system, just implemented, actually concentrates the savings on the top 20 % of claimants. Some 65 % do not oppose a reduction in the length and/or generosity of unemployment benefits. This is more or less the fraction of the workforce employed with stable jobs; the remaining 35 % are either  unemployed or with temporary contracts (and therefore are exposed to unemployment). At the other end of the spectrum, there is a wide consensus against reforms whose burden is widely spread throughout the population, even though the burden is small on paper. Hence the vast majority opposes a 100 Euros per year franchise on health spending; raising the workweek by a couple of hours without a corresponding raise in income is also strongly opposed.

We learn three things from this poll.

First, the French are completely self-interested. For all the talk about solidarity, there is none. Solidarity is generally used as a codeword for “you pay, I keep my entitlement”.  The pretense that French society is more altruistic than its ugly Anglo-Saxon counterparts is a lie that nobody believes

The truth is closer to Bastiat’s aphorism that the State is the fiction behind which each gets richer at the expense of everybody.

Second, the French do not understand incentives. The savings that a 100 Euro Franchise would deliver are, in all likelihood, much higher than those 100 euros. (In fact, experiments with a sheer delay in reimbursement of drugs, as well as the preceding government’s policy of a 1 day franchise for the civil servants’ sick leave, suggest that such methods have large effects. Incidentally, we note that the current government has eliminated that franchise and does not remotely consider reintroducing it as part of its current package of structural reforms. Those reforms are carefully targeted to spare its traditional constituency). Therefore, each French person would have a tax rebate of more than the 100 Euro franchise they have consented. Of course, it does not help that, given the state of public finances, these savings will look more like a lower than expected tax hike than an actual rebate.

More generally, people do not consider the general equilibrium effects of a policy when evaluating its gains and losses. This is clear from the opposition to lengthening the work week, despite our blatant competitiveness problem. People ignore the fact that in the medium run, this policy will eventually boost employment and investment, and eventually living standards would have gone up.  (Unfortunately, the teaching of economics at the high school level is not keen on simplistic conservation laws such as “on average, one can only consume what one produces”; instead, they insist on impressionistic  debates  on great issues, such as “inequality”, “globalization”, and so on. High school students are not equipped to think by themselves on such complex issues, and this opens the door to all kinds of ideological manipulations.)

Third, the French are confident that they can outplay other French people in the zero-sum game of allocating the burden of fiscal adjustment.  Nobody thinks that making concessions now could avoid more painful cuts in the future (for example because rates are going up and the fiscal situation has further deteriorated). Of course, not everybody can be right at the same time…

Running out of other people’s money

There is much agitation in France concerning a number of cost-cutting measures the government is trying to implement in order to comply with the budgetary targets associated with our European commitments. Especially notable are the increase in a tax on pensions and the reform of maternity leave, whereby one is moving from a system where mothers can have up to 36 months of maternity leave, to a system where each parent has 18 months.

It is generally thought that this new system will, under a pretense of “gender equality” actually reduce spending, because most fathers will not take advantage of their eighteen months, while mothers will be compelled to halve their leave relative to the preceding system. It is also believed that the system will increase congestion in publicly-funded daycare centers, unless more slots are created there, which, as day-care centers cost more than 1000 euros per month per child, will wipe out any savings from the shorter maternity leave.

Angry middle class mothers contemplate being forced to separate themselves from their babies at a very early age, and, to add insult to injury, also being forced to fight against competitors for those coveted and rationed day care slots. Resentment builds up in anticipation of the suspicions of corruption, favoritism, and political and ethnic bias in the future allocation of this increasingly congested socialized resource. Ms Le Pen cannot believe her luck and is celebrating.

Generous maternity leave was implemented a couple of decades ago as a joint venture between “Santa Claus socialism” and “old-style feminism”. Old-style feminism recognizes that women are different from men, and concludes that taxpayers’ money should be used in order to promote the formers’  “work-life” balance. In the society that prevailed before the rise of the welfare state, women’s maternity leave was funded by their husbands; this was regarded as a form of exploitation. In order to free women, “society” had to pay for maternity leave. This meant that taxes had to be increased and consent withdrawn from the workers who had to finance those benefits regardless of their own personal choices and marital status. As for Santa Claus, his agenda was to collect votes from naive people by promising them freebies. Who could say no to 20 to 40 years of holidays (aka pensions) or to the dream of taking care of one’s kid at home while being paid an “allocation” and having her job kept warm at the office?

The problem was that as Santa Claus was pounding the population with benefits and entitlements,  costs inevitably soared, while the economy was nearing asphyxia under the burden of taxes and regulations. As people were more and more encouraged to participate in the zero-sum game of claiming benefits, and more and more discouraged to participate in the positive-sum game of voluntary exchange, the cake began to shrink. Santa Claus started realizing that the size of the cake was not sufficient to fulfill each kid’s Christmas list. Some of the children had to be reluctantly informed that there is no Santa Claus.

This is all the more painful than the poor people, after decades of being spoon-fed, can no longer take care of themselves. For one thing, they lost the habit; they cannot conceive that now that the government says they should stop work for eighteen months instead of thirty-six, they might remotely consider disobeying. But we can hardly blame them. The evil husband is no longer in a position to provide for his wife’s maternity leave. Half of his earnings are confiscated before they even land on his bank account, in order to fund, among other things, other people’s parental leave. The woman that the government has freed from the patriarchy has no other choice than organizing her life according to the government’s prescription, which means that the baby will stay with his mother for eighteen months, no more. Enjoy your freedom from the patriarchy!  Unless, of course, the family has enough money left, despite the heavy taxation…

So, in this society obsessed with egalitarianism and the fight against the “reproduction of elites”, we will observe that the children of the lower middle classes will be abducted from their homes at the age of eighteen months, to be taken care of by bureaucrats; at the same time, the children of the upper middle classes (among whom, conveniently, the apparatchiks who impose the Theory) will enjoy the benefits of staying with their mothers, or selected nannies, for much longer. Meanwhile, the boundary between those two social classes moves up, due to the swelling of the Tax Moloch.

Nobody in the establishment, though, will pay attention to that.

For one thing, the establishment is convinced that “professional” public servants do a better job at taking care of children than their mothers. I remember participating in a meeting of officials very concerned about “equality”, and they were brain storming about how to design schemes so as to prevent kids from the lower classes from spending school holidays with their family ( a number of representatives from NGOs which supposedly cared much about families, were nodding in approval). Their general prejudice was that kids from “privileged” families were spending those holidays taking intensive math and language lessons, while those from “disadvantaged” families were at best watching TV.  There was no mentioning of the inherent contradiction between subsidizing fertility at the lower end of the skill distribution and devoting public resources to separate the offspring of those subsidies from their “disadvantaged” environment.

But, more importantly, the Theory has changed. Old-style feminists have been replaced by Gender feminists. Now there is no difference whatsoever between women and men. In fact, there is no longer any presumption that the two parents should be of opposite sexes (actually those parents do not even have a sex, only an ectoplasmic “gender identity”). There is no longer a mother and a father, only a parent 1 and a parent 2. Surely, then, it would be unfair if parent 1 had a different parental leave from parent 2? So why don’t the people just obey and combine eighteen months of parent 1’s with another eighteen month of parent 2’s parental leave? Why does it matter to them? Don’t they know the Theory says it does not?

Now you may object that since — according to the Theory itself — parent 1 and parent 2 are interchangeable, one day of parental leave by parent 1 is interchangeable with one day of parental leave by parent 2. Therefore, why not give a total of 36 months to both parents, and let these two people decide on how to split it between themselves? Remember they are free. What does free mean? Or maybe “free” in “free from the patriarchy” has  a specific, unusual meaning, as in, say, “freedom is slavery“?

Now I am not familiar enough with the apparatchiks who apply the Theory to figure out why this obvious remark has escaped them. But I suspect they believe that Parent 1 and Parent 2, if left free to choose, would decide that the parent with the least stable and/or least paying job would take the maternity, sorry, parental leave.

This has two big drawbacks. First, it is what people want. Second, it is efficient. A Theory which would let that happen would be useless — it would make no difference if the Theory was not around. A Theory which makes a difference is one which compels people to do what they do not want.

The Theory is especially useful when the cake shrinks. It tells you who should have their piece, and who should be denied a piece. Households who prove the theory should have their piece. Households who disprove the theory should have nothing. Households who apply the theory will have 36 months of parental leave. Households who do not will just have 18 months.

You do not know how much you should bend human nature for the Theory to be true.  Lyssenko found out that he could not bend the nature of wheat by enough for his theory to be true. Others died. Our Theory is much more humane than Lyssenko’s; we just impose a little tax on those who do not conform to it. They are welcome to pay it and contribute to the consolidation of public finances; they are also welcome to dutifully take turns in child care between Parent 1 and Parent 2 and show that the Theory works.

 

 

 

Why the Euro cannot work

This text is the basis of my intervention tomorrow (30 september 2014) at the Institut de l’Entreprise, in a debate with Hans-Werner Sinn.

When the Euro was created, most economists were actually skeptical. They contended that macroeconomic shocks were asymmetrical across countries, that prices were sticky and that labor mobility was very low. They generally rejected the idea that Europe was an optimal currency area. At the same time, however, they also thought that while the costs outweighed the benefits, both were small. Estimates circulated that showed that asymmetrical shocks were not that important quantitatively. A number of idealists concluded that the economic costs were worth paying in exchange for an additional step on the glorious road to European unification.
Yet the subsequent experience was not one of asymmetric shocks, but asymmetric trends. Some countries accumulated inflation differentials and large trade deficits with respect to other countries. They appeared unable to curb the sharp increase in unemployment that they experienced during the crisis. As a result the Euro appeared not only as far more costly than was expected, but also as doomed.
Why did we observe such asymmetries? I argue that this is because of structural differences across countries. Some countries have better functioning labor and goods markets that others, because they are less, or better, regulated. As a result their equilibrium level of activity is higher, meaning higher wages and living standards, and their equilibrium unemployment rate is lower. Their economies will be closer to an “optimal” allocation of resources.
In general these discrepancies should not prevent those countries from sharing the same currency. If prices were flexible, or if the ECB could harmonize inflation across countries so as to prevent permanent imbalances from arising, the fact that some economies are less efficient than others would not be incompatible with a monetary union. Such a union would simply settle in a situation where the less productive countries have lower wages and the same price level as compared to the more productive ones.
But monetary union is problematic if governments retain fiscal sovereignty and use it in a discretionary fashion to inflate their economy so as to overcome their structural problems.
Prior to monetary union, Italy always had more inflation than France. And France always had more inflation than Germany. Why was that so? Because the Italian economy was less efficient than the French one, itself less efficient than the German one.
In the short run, governments pick their preferred point on an output/inflation trade-off. In a nutshell, this trade-off tells us that if you create more inflation than expected, firms can sell their goods at a higher price relative to wages, because wages are sluggish and were set in advance on the basis of inflation expectations. Therefore the government can buy an expansion by creating an inflationary surprise, that is by having more inflation than was expected by private agents. Absent such a surprise, the economy settles at its equilibrium output level. But this level is lower, and more undesirable, in Italy than in Germany, because the former economy is plagued by more structural rigidities than the latter. So the Italian government, left to itself, will naturally be tempted to select a higher inflation rate than the German government.
This attempt at creating surprise inflation is hopeless, however, because private agents will anticipate it. Therefore, the Italian government will end up having higher inflation without actually boosting its economy. Italy ends up with both more inflation and more unemployment than Germany. This implies, under flexible exchange rates, that the Lira will continuously depreciate against the D-mark, thus offsetting the competitiveness losses associated with higher inflation in Italy.
The preceding argument is the standard analysis of monetary policy credibility which Robert Barro and David Gordon made more than three decades ago. Discretionary monetary policy by governments create an inflationary bias; their attempts to stimulate output is defeated and one only gets more inflation instead. This bias is larger, the lower the equilibrium rate of output compared to the optimum; that is, the more the economy is crippled by rigidities such as barriers to competition. A consequence is that monetary policy should be based on rules rather than discretion. Hence Italy should refrain from trying to expand its economy beyond its equilibrium level of activity by creating inflationary surprises, by having some commitment against such moves, like, for example, an independent central bank.
Indeed, some of the Euro-enthusiasts at the time pointed out that one benefit that could be derived from European Monetary Union is that governments could solve their credibility problem by delegating monetary policy to the ECB. That is, they would not longer be able to select their preferred point on the inflation/output trade-off in a discretionary fashion, simply because inflation was now controlled by the ECB.
This argument turned out to be wrong. Despite losing monetary autonomy, governments can still choose their preferred point by using fiscal policy. While the ECB controls the average inflation rate of the Eurozone, any individual government can still try and implement an inflationary surprise; all it has to do is to engineer some stimulus to aggregate demand (by raising public expenditures or the budget deficit), to move up along its own output inflation trade-off. Just like monetary stimulus in a country with its own currency, this attempt eventually does not work, because people take it into account in forming their inflation expectations. So, again, one gets more inflation instead of more output–with far worse consequences. The independent ECB eliminates the inflationary bias on average but does not eliminate differences in the inflationary bias across countries.
Countries that have a lower equilibrium rate of output for structural reasons will then systematically have a higher inflation rate than the Eurozone average, and at the same time they are likely to be more profligate in terms of government spending, since this is the lever used by the government in its quest for higher output. Indeed, most of the countries in crisis (Portugal, Greece, Italy) had both greater inflation and greater budget deficits than Germany, while France stood in the middle between these two categories. (One exception, however, was Spain: There, the construction boom delivered enough stimulus which spared the government from having to use fiscal policy. While Spain did accumulate an inflation differential with respect to the rest of the Euro area, its budget situation was sound).
This situation had two important consequences.
First, as aggregate demand was larger, those countries tended to run persistent trade deficits. These deficits were financed by capital inflows at interest rates that were lower than before, because interest rates had essentially converged between all Eurozone countries. These capital flows, per se, are not problematic. It is normal for capital to flow from richer to poorer countries. And one of the benefits of the Euro was that the inflation-prone countries were no longer subject to a “peso problem”, by which they had to pay an interest premium on borrowing to compensate for devaluation risk. However, a number of countries, like Greece, took advantage of those low rates to run a Ponzi game with public debt. And the mystery, to me, is that it took ten years for private investors to realize that default risk had replaced devaluation risk and that they should ask for a greater return on Greek debt than on German debt.
Second, the inflationary differentials gradually accumulated over the years to cripple those countries’ competitiveness, which further depressed activity and raised the demand for an activist fiscal policy, as illustrated by the recent protests against austerity in those countries. This led to mass unemployment and to countries being “stuck” because they had to implement austerity while being unable to substitute foreign demand for domestic demand, because this would have required a large devaluation.
The competitiveness problems were compounded by adverse supply-side policies, like for example the 35-hour week in France, which further widened the gap between France and Germany in terms of equilibrium output.
If this analysis is correct, no amount of debt relief or austerity may save the Eurozone. The imbalances will resume immediately after one exits the crisis. There are three way to tackle this issue, other than dismantling the monetary union. One possibility is implementing structural reforms so as to raise the equilibrium output level. Another is for the inflation-prone countries to implement some built-in device to impose some fiscal discipline upon themselves. For example, some economists have advocated for independent fiscal policy committees. The idea is to prevent politicians from stimulating the economy in a discretionary fashion, which, as we have seen, is counter-productive. Finally one may also envisage a fiscal policy union, which in my view would deepen the democratic deficit and create more problems — such as free-riding — than it would solve. But Euro enthusiasts are keen to take advantage of the crisis as an argument for further integration.
One should note that the growth and stability pact turned out to be unable to countenance those problems. It was designed to prevent public debt in the Eurozone to increase to such levels that the ECB would be tempted to abandon its inflation target and to monetize it (and we are right there). But this is not the only issue: a country can inflate without running a budget deficit — a balaned-budget increase in government spending would work — and yet its selection of a higher inflation rate will nevertheless prove problematic. Furthermore, the European Union has proved unable to impose sanctions on countries that violated the Pact. In this context, it seems that bureaucratic solutions like fiscal policy committees, similarly, are wishful thinking.
So we are just left with structural reforms. But it is unlikely that all Euro area members will implement such reforms so as to end up with exactly the same inflationary bias. A country may be more regulated than another for different reasons. This may be due to sheer policy mistakes that are easy to eliminate. Or it may be due to the ability of some interest groups to preserve their rents. Or it may be due to different “collective preferences” for the size of the welfare state. Countries with more generous welfare states will have more tax distortions, and therefore a larger inflationary bias. It is not obvious to me that such countries are actually willing to live with the negative economic consequences of their generous welfare states, as opposed to believing they are having a free lunch. But it is certainly conceivable that a country would rationally prefer having a bigger government in spite of higher taxes. To align the inflationary bias with that of the other countries, the European Union would have to force it to reduce the size of its government against its will. It does not seem much better than forced transfer of fiscal sovereignty to Brussels.

New textbook: Frictions and Institutions

My e-textbook, Frictions and Institutions is now downloadable online for free at bookboon.com.

Click here to download Frictions and Institutions

This book is based on my lectures on labor market institutions at Humboldt University Research Training Group and IMT Lucca in August and September 2013. It is a textbook which also contains some original research; the latter is presented in a “raw form”, which is relatively close to the way the ideas were originally formulated. Hence there is little dressing up and sweeping under the carpet, which I believe has pedagogical advantages for an audience of graduate students expecting to develop a career in research.

The goal is to induce the student to work with matching models and to perform the required analysis. This is why many analytical results are presented as exercises for the reader. Also, there is substantial emphasis on proving analytical results as opposed to constructing and calibrating a dynamic stochastic general equilibrium model. Mastering the analytics is important because the economic effects being analyzed are explicitly present in the terms of the analytical equations, and interpreting them correctly is a crucial skill any applied theorist should have.

The book introduces the reader to the now largely standard Mortensen-Pissarides (1994) matching model of the labor market, and then builds a number of applications of this model that allow us to study the distributional effects of various labor market policies and institutions. The motivation is simple: many such institutions are considered as harmful for job creation, yet politically difficult to reform. We want to know why, and the framework developed in this book allows us to find out who gains and who loses from those “rigidities”. These rigidities generate conflicts of interest among workers who are otherwise identical but may be in different current situations in the labor market. The currently unemployed have different preferences from the currently employed, and the latter may also differ by the situation of their firm: Workers in firms that are doing well have different interests from workers in firms that are doing poorly.

After having introduced the basics of the matching model, the book considers a number of specific institutions. For each of those institutions, the effect on the welfare of different kinds of workers is computed. The outcome is also compared to the first best, which in most examples coincides with the market outcome if the famous “Hosios conditions” hold. These conditions state that the surplus from a match should be allocated between the two parties in proportion to the relative importance of their search input in generating new jobs, which turns out to be equal to the elasticity of that input in the matching function. That is, the more a given side of the market is important in the job creation process,
the greater the share of the surplus that we want to give it.

I start with employment protection. An important distinction is made between employment protection as a device that enhances the workers’ bargaining power versus employment protection as a tax on separations. I then study the gainers and losers from unemployment compensation. The analysis, by assuming risk neutrality, ignores the insurance dimension of such policies and focuses on its effects on welfare through wage formation and job search. Finally, I study the role of one specific active labor market policy – a subsidy to job search – in a model where workers differ by their productivity level. It is shown that in addition to the usual congestion externality, job search generates a externality on the average quality of the pool of unemployed.

Frictions and Institutions

The attack on meritocracy and the new oligarchy

Ever since Pierre Bourdieu stigmatized the “reproduction of elites”, these elites have felt guilty. That their children’s achievements compare to theirs is perceived as a sign of unfair privilege. And prominent members of those elites do not miss an opportunity to publicly complain about “reproduction” and lack of social mobility, even though privately they spare no money, effort, time and connections to lift their progeny as high as possible in the social ladder.
Reproduction is what life is made of. That social structures reproduce themselves should therefore come as no surprise. Parents transmit genetic, human, financial, and social capital to their kids; this is not only a natural “default” outcome but for many people such transmission is the most important purpose in their life.
For Marxists and partisans of “social justice”, this is unfair because you do not choose your parents. Some kids are lucky to be born in an educated, wealthy family; others are unlucky.
Traditionally this problem had been corrected by putting in place a public education system which was supposed to give everybody the ability to acquire human capital and to progress in society despite an unfavorable initial environment. This system was based on strict meritocratic criteria and was meant as giving opportunities to those who had the will and capacity to seize them; it was not meant to be evaluated on the basis of statistical data regarding the relative outcomes of various social groups.
The system was deemed fair because it was meritocratic, regardless of its outcomes. If indeed the elites reproduced themselves, this was just tough luck for the non-elites who had been on average incapable of seizing their opportunities. Whether or not the system is fair depends on its design and not on its outcomes.
In the era of political correctness, this perception is no longer tolerated. The system has to deliver “equality of outcome”, otherwise it is considered as biased. Furthermore, any person who would claim that the system is fair could be cornered into admitting that members of those groups who do comparatively worse are less deserving, and from them easily accused of racism, sexism, and so forth. This, despite that it is generally the Marxists, not the conservatives, who insist on categorizing individuals by sex, ethnicity, class and other collective characteristics.
As a result the guilty elites are gradually eroding the meritocratic system that brought them to the top, by introducing arbitrary criteria meant to promote “diversity” (a conveniently vague concept) in the recruitment process for elite schools and positions.
So what does it mean to promote “diversity”? To answer that question, we need to note that the criteria by which the system is being evaluated have changed. In 7th century China, participants in the Mandarinate contest had their exams copied by a bureaucrat, so as to make sure that the graders could not recognize the handwriting of the candidates and indulge in favoritism. In the 21th century West, instead, elite educational institutions boast of the proportions of various “disadvantaged groups” in their recruitment, while relying on increasingly opaque and arbitrary procedures.
The two processes go hand in hand: if I am targeting a given statistical distribution for the personal characteristics of my students, I cannot at the same time abide by strict rules that apply to all individuals equally.
The most transparent I could get is to have a segmented recruitment process, by which there would be a fixed number of slots for each group. In such a situation, though, it would be all too obvious that those who are admitted to school X in capacity of their belonging to some anatomical group, are not in the same category as the others. The equality of outcome agenda would simply defeat itself if it were to use such obvious means. Instead, it has to rely on opaque means in order to preserve the illusion that the preferred groups are thriving in a process which does not systematically favor them, but instead relies on criteria that are supposed to have less of a disparate impact on the disadvantaged.
These techniques range from having an admission meeting in order to demote members of the non-preferred groups who would have made it on meritocratic criteria, so as to make room for members of the preferred groups who would not have made it (up to the point where the statistical targets are met), to getting rid of some parts of an entrance exam on the grounds of their alleged disparate impact, and replace them by tests that leave considerably more discretion to the admission committee.
As an example of the first method, I once briefly participated in an NSF-style body in the French university system which was in charge of allocating an important set of grants. After discussing the academic merits of the candidates and ranking them, we then counted the number of people who resided outside Paris and the number of women. If the result was not deemed acceptable by the president of the jury, then some men and some Parisians were demoted from their ranking and replaced by provincials and women. Since I was very uncomfortable in contributing to a process that I do not approve of, I did not last long in that jury, especially given that the president greeted me and the other members by complaining that there were not enough women in the jury (I guess they appointed me just to let me know). This Darwinian elimination process guarantees that the jury will eventually be mostly made of yes-men (and women) who will never challenge its non-meritocratic criteria.
As an example of the second method, the French elite school Sciences-Po has decided to withdraw its general culture test from its entrance exam, on the grounds that “disadvantaged groups” — like recent immigrants — would perform poorly because their background made them less acquainted with mainstream higher French culture (similarly, Pierre Bourdieu advocated that selection at school should emphasize mathematics, which is less culturally loaded than humanities). There were also talks of getting rid of the English language test, on similar grounds that the disadvantaged groups were less proficient in foreign languages, having fewer opportunities to live and vacation abroad. Somebody must have pointed out that English is used to communicate in the modern professional world, and that maybe, just maybe, social mobility would not improve if the Sciences Po graduates, regardless of their family background, were incapable of speaking English. So the English test was finally maintained, but the general culture exam was suppressed.
Which brings the following interesting question: How long can an elite survive, if it recruits its members so as to get rid of any of the characteristics that make it legitimate as an elite? If these people are not more knowledgeable, more proficient in English, nor better at logical reasoning than the average Joe, on what grounds do they hold privileged positions in society? This is of course exactly the question that the eighteenth century enlightened liberals were asking on the eve of the French Revolution. We may speculate that competition in labor markets will do to educational institutions that abandon meritocracy what the French Revolution did to the aristocratic system.
The new criteria that Sciences Po uses heavily favor those applicants who have an “interesting” and “diverse” profile. The fair exam principles borrowed from the Chinese Mandarinate system were well received in a Catholic country for which salvation is a reward for good actions (the selective exams reward hard work, and all candidates who were admitted had “suffered” in preparing the exam; therefore they tend to believe that their suffering was rewarded). By contrast, recruiting “interesting people” is a neo-Calvinist concept borrowed from U.S. universities. Salvation is now an outcome of pre-destination, not of your actions. In fact Sciences Po is remarkably opaque in disclosing how you become an interesting person, because they do not want people to develop a fake personality in order to make it to the school. As a result of the new system, some 40 % of a class had to take no written exam [1] and was admitted on the grounds of a bogus motivation letter which was at best written by their parents, and a 20 minute interview on no specific topic.
The important point here, though, is that these loose criteria, while contributing to the goals of apparent equality of outcomes, at the same time provide the oligarchy with considerable discretion in order to co-opt its members. It is very easy to decide that members of influential networks (financial contributors, political acquaintances, colleagues’ children, media pundits…) just happen to have kids whose profile is wonderfully interesting and diverse. After all, nobody can disprove you and it may even be true! It is easy to imagine that a family located at the center of power has more opportunities for a challenging, original and diverse experience than the children of a regular electrical engineer or manager of a medium-size supermarket in some dull provincial city. And, when one compares these boring middle-class people, whose only claim to upward mobility is hard work and academic excellence, to the Chosen who cannot be bothered being asked demonstrating their skills, all talk of the elite reproducing itself suddenly vanishes [2]. One only opens Bourdieu’s grave when it is convenient.

NB: [1] This ignores specific procedures for foreigners and applicants from “disadvantaged neighborhoods” who also waive any written exam.

[2] The trick is not to distinguish, in the statistics and in the rhetoric, between relatively high skilled workers earning a fair wage on their human capital, and the actual oligarchy in control of power. The dismantling of meritocracy benefits the latter at the expense of the former. 

New working paper (in French): Social networks and socialism

This new piece of research studies the role of social networks in a “socialist” economy where access to goods is rationed (in the paper, this is because of a price cap, but the argument may apply to other forms of regulations). In the model, social networks develop as an alternative device to access a trading opportunity for those goods. As a result, people overinvest in social networks — at the margin, they make friends with people they do not really like, or spend too much time with their relatives, because such networking may provide useful consumption opportunities.
The most interesting result is that regulation may be sustained as a self-fulfilling political equilibrium. This may hold provided some people benefit from it. Here regulation maintains prices below their market clearing level. It benefits the “poor” because they have to pay less for the goods. It harms the “rich” whose income is lower in the regulated society (in the model it is because they own shares in the firms that produce the rationed goods). These “rich” include the “average” individual, who is also harmed due to the price distortion brought about by regulation. Only poor enough people benefit, and that is only because more efficient forms of redistribution are not available.
If people’s ability to invest in their social network is heterogeneous, the expectation of a regulated economy will lead to the emergence of a social group who is well equipped in social capital (and therefore expects to do well in a regulated economy), but with relatively low income. This social class benefits from regulation because they have a privileged access to the goods that are rationed, thanks to their superior social network. They benefit from low prices while not suffering too much from rationing. On the other hand, they are not poor enough to support regulation should they have not invested in their social capital. Therefore, these people validate expectations: if it is anticipated that the economy will be rigid, they invest in social networks and, because they are winners in the social networking game, end up voting in favor of regulation. If it is anticipated that markets will be left unregulated, they do not invest in social networks and vote against it. If this group of people is large enough, both rigidity and flexibilty are self-fulfilling outcomes.
The argument applies to social-democratic societies where a wide range of publicly provided goods are subjected to a price cap (or even free) and rationed. We may mention access to social housing, day care, medical care, summer camps, pension homes, music conservatories, and good schools. The model tells us that the system is supported by a social class of people who are relatively modest economically but well positioned to access those goods thanks to these connections. This article by Eric Le Boucher laments how opacity and complexity in the French higher education system ultimately favors the well-connected (in particular high school teachers) who know how to get into the right track. Indeed, high school teachers are modestly paid, but they are in an excellent situation to use their connections to get their children in the right place. And they have more free time than others that they can use to develop connections and gather information. They match the caracteristics of the social group I have just described.
Along similar lines, this article by Capital points out the pervasiveness of favoritism in the allocation of social housing in France; while sheer bribing is rare, social connections (and affinities) with the key decision makers is essential. One does not need to be miserable to be eligible for social housing. According to the article, 50 % of households in the Paris region are eligible — the proportion of social housing is less than 20 %. It is easy to figure out that among those 50%, the more connected and least poor among the eligible would be better-off in a free market system where they would not have spent as many resources to establish connections. But these resources are sunk costs and they end-up locked in in a situation where they gain from rigidity.

On the art of clientelism

Besides the train strike (which is basically over), there is another protest movement by the so-called “intermittents du spectacle” (henceforth “intermittents”). These are employees of the cultural/media industry who enjoy a specific unemployment benefit system. Essentially this system allows them to move back and forth between temporary employment and unemployment benefits, while other temporary workers (say in the tourism industry) would have to spend a larger fraction of their time in employment in any given year to be eligible for benefits. Beyond the eligibility rules, being on benefits has become a way of life for the intermittents. As a result, their specific unemployment benefit system has an annual deficit of about 1 billion euros, which is about the same, for 250.000 contributors, as that of the general system, which covers 16 million people. This is a transfer from the rest of society (including poorer people and people who have far less enjoyable jobs) to the intermittents.

As a result, the social partners, who are supposed to negotiate the financing of the welfare state, have regularly tried to cut on these conditions. In general there has been enough consensus between unions and employers on these reforms, because the intermittents are perceived by regular working class employees as privileged, while employers want to cut on labor costs and social security contributions. Thus the main private sector labor union, CFDT, has generally gone along with the employers’ proposals to cut the benefits. By contrast, the CGT labor union which represents mostly public sector employees is opposed to the cuts, and is active in organizing the intermittents. This is rational: While the CFDT median voter has to finance the intermittents scheme by paying higher contributions to the unemployment benefit system, public sector workers have job security and therefore do not contribute to the system.
In 2003 a reform was implemented and met by protests that perturbed a number of summer cultural festivals, up to the point that a sacred cow of French cultural mythology, the Avignon theater festival, had to be cancelled.

The same scenario is being played out right now as another agreement by the social partners has managed to put some mild cuts into place for the intermittents’ specific system. The movements should be less popular than ever, given the punitive tax increases that have been inflicted on most of the population since 2011. Nevertheless the Valls government has already yielded to the intermittents by transferring part of the costs to the tax payer; the agreements between the social partners is, then, purely cosmetic. The financing of the system is being put into the general government budget instead of the “social accounts”.

[Quite remarkably, exactly the same trick was played after the 2003 reforms. But you have to read the austere report of the "Cour des Comptes" (a committee of Cassandrae who open closets and lift carpets, then write reports on what they have found, and whose wise recommendations are invariably ignored by the politicians) to figure out how. The 2003 reform made eligibility rules stricter. But a special fund, financed out of the government budget, was put in place to guarantee a smooth landing for those who were no longer eligible. The fund was supposed to be temporary (like the jobs of the intermittents), but never trust a temporary measure.]

The existence of the intermittents is a remarkable example of political clientelism. Over the years, the eligible population has been multiplied by 10. This reflects the explosion of “cultural” spending by successive governments. Short-time unemployment compensation is a way of life for most people involved in “spectacle vivant” (theater, dance, clowns, happenings) and is also used by television and radio channels, including the State-owned ones, to pay their technicians.

The rise in the number of people working in the “cultural” sector, maintained by subsidies at an artificially large size, is a way for the political left to recruit its own electorate. The intermittents are a captive electorate, because the excess size of the entertainment sector puts them constantly under theat. They know that a substantial fraction of them would have to relocate to other industries (and lose part of their human capital) should the subsidies be cut. They also know that employers, and more generally union representatives for private sector employees, have targeted the intermittents benefit scheme as a priority for implementing cuts in social spending. This means that the threat they face is associated with the political right, implying that they need the left to be in power so as to protect their rents.

Distributing rents is not sufficient for successful clientelism. If the beneficiaries of the rents think that the opposite political party will treat them just as well, they have little incentives to reward your clientelism with votes. The rent must therefore be designed in such a way that your political opponents will try to eliminate it. By having the intermittents UB scheme being financed out of the UB system instead of the general budget, one makes the cost to other workers more apparent. That is, as you create the rent, you create a constituency against that rent at the same time. And that constituency is important in convincing your clientele that your opponents will attempt to eliminate their rent. The price to be paid for it is that the scheme will come regularly under attack; but these attacks secure loyalty among your supporters.

While the rent has to be fragile, it has to be resilient at the same time. You will need your clientele as an army to reconquer power if your opponents win the next election. But this army will not be around should the next government eliminate the scheme by a stroke of pen. To prevent that, make sure that the rent is not a discretionary subsidy scheme. Instead, it should be embodied in some form of entitlement.

The clientelism scheme will also work better if you can recruit more people into it. This means that the rent should be relatively small, so as to save resources for raising the number of beneficiaries. And if your clientele is an occupation or an economic sector, entry into it should be relatively easy (of course entry cannot be costless because that would simply eliminate the rent). Indeed many of intermittents are relatively mediocre artists who would have elected a different occupation in the absence of the scheme. Lowering standards and promoting amateurism goes hand in hand with the ability to enroll many people. Conversely, one would not go very far politically by promoting “excellence” in the arts instead.

Finally, make sure to “leverage” your clientelism by designing it so as to enroll indirect supporters in addition to direct ones. Suppose you are the mayor of a small city; you get more support by giving municipal jobs to members of large families than small families. By hiring one employee, you not only make him happy, but also his parents, sister, cousins, and so forth. In that respect, targeting the entertainment industry is a clever idea, since they can potentially enroll the audience. By targeting artists and intellectuals for your clientelism, you also achieve leverage. By virtue of their profession, these people influence public perceptions; and a dog does not bite the hands that feed him. Indeed each election a cohort of artists and intellectuals duly endorse the left in the media, while the right has to content themselves with a handful of athletes, movie stars and popular singers (who in fact reach out to far more people than the artists and intellectuals, but the point here is that many of the latter benefit from government subsidies).

I can only speculate about why over the years the right-wing governments have proven impotent in reducing the size of a scheme which, in addition to being considered unfair by many people, runs against them politically. Perhaps an explanation is that the educated bourgeoisie, who consume a substantial amount of “elite” cultural products, does not want their music and theater festivals to be sabotaged. This is a form of hostage taking but the hostages seem to be struck by some sort of Stockholm syndrome, perhaps rationally so. They contribute more to the system than they get, but as consumers of cultural products they do get part of their taxes back in the form of low prices and an abundant supply. They expect to lose more from a less profligate and more expensive cultural sector than they would gain from reduced social security contributions if the cuts were to be implemented.