The Online Library of Liberty

A project of Liberty Fund, Inc.

• Foreword
• Richard E. Wagner
• Preface
• Acknowledgments
• Part One: What Happened?
• 1.: What Hath Keynes Wrought?
• 2.: The Old-time Fiscal Religion
• 3.: First, the Academic Scribblers
• 4.: The Spread of the New Gospel
• 5.: Assessing the Damages
• Part Two: What Went Wrong?
• 6.: The Presuppositions of Harvey Road
• 7.: Keynesian Economics In Democratic Politics
• 8.: Money-financed Deficits and Political Democracy
• 9.: Institutional Constraints and Political Choice
• Part Three: What Can Be Done?
• 10.: Alternative Budgetary Rules
• 11.: What About Full Employment?
• 12.: A Return to Fiscal Principle

James M. Buchanan and Richard E. Wagner,

Big Sky, Montana

Foreword

Democracy in Deficit, by James M. Buchanan and Richard E. Wagner, represents one of the first comprehensive attempts to apply the basic principles of public choice analysis to macroeconomic theory and policy.1 Until the 1970s, macroeconomics was devoid of any behavioral content with respect to its treatment of government. Government was simply treated as an exogenous force (Ḡ), which behaved in the way prescribed by a given macroeconomic theory. In this approach, government invariably acted in the public interest as perceived by the host theory. Both the so-called Keynesian and monetarist approaches were beset by this problem, although it was the inherent contradictions of the Keynesian theory that attracted the attention of Buchanan and Wagner.

Democracy in Deficit led the way in economics in endogenizing the role of government in discussions of macroeconomic theory and policy. The central purpose of the book was to examine the simple precepts of Keynesian economics through the lens of public choice theory. The basic discovery was that Keynesian economics had a bias toward deficits in terms of political self-interest. That is, at the margin politicians preferred easy choices to hard ones, and this meant lower taxes and higher spending. Thus, whatever the merits of Keynesian economics in using government fiscal policy to “balance” the forces of inflation and deflation and employment and unemployment in an economy, its application in a democratic setting had severe problems of incentive compatibility; that is, there was a bias toward deficit finance. And, of course, there is no need to reiterate here the evidence in the United States and elsewhere for the correctness of the Buchanan insight on Keynesian economics. It is all too apparent that the thesis of this book has been borne out.

Democracy in Deficit led the way to modern work on political business cycles and the incorporation of public choice considerations into macroeconomic theory. For example, there is a literature today that discusses the issue of the time consistency of economic policy. Does a conservative incumbent who cannot stand for reelection run a deficit in order to control spending by a liberal successor? One can easily see the hand of Buchanan in such constructions. In this example, term limits (a public choice phenomenon) are at the center of a macroeconomic model.

Moreover, monetarism has not escaped the inspection of public choice analysis. Buchanan and others have pioneered work on the behavior of fiat money monopolists. This public choice work stands in stark contrast to earlier work by Keynesians and monetarists who supposed that economists stood outside and above politics and offered advice to politicians and central banks that would be automatically adopted. Otherwise, policymakers were misguided or uninformed. If they knew the right thing, they would do the right thing. This approach to macroeconomics is now largely dead, thanks to books like Democracy in Deficit. Today, the age-old adage that incentives matter is heeded by macroeconomists, and it is recognized that political incentive—not the ivory tower advice of economists—drives macroeconomic events.

Democracy in Deficit is also closely related to Buchanan’s interest in fiscal and monetary rules to guide long-run policy in macroeconomics. Such rules are needed to overcome the short-run political incentives analyzed in this book and to provide a stable basis for long-run economic growth. Buchanan’s lifelong dedication to the goal of a balanced budget amendment to the United States Constitution and to a regime of monetary rules rather than central bank discretion can be seen in this light.

The real alternative to fiscal and monetary rules is, after all, not the perfection of economic policy in some economic theorist’s dream. It is what the rough and tumble of ordinary politics produces. The problem is to find a feasible solution to long-run economic stability and growth. Viewed in this way, there is really no conflict between rules and discretion, and, thanks in part to Buchanan’s insistence on this point, the world today seems poised to have more rule-based economic institutions. Democracy in Deficit is but one of Buchanan’s many intellectual efforts toward this end.

Robert D. Tollison

• University of Mississippi

1998

[1. ]James M. Buchanan and Richard E. Wagner, Democracy in Deficit: The Political Legacy of Lord Keynes (New York: Academic Press, 1977), volume 8 in the series.