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Author:Azzimonti-Renzo, Marina 

Working Paper
The political economy of labor subsidies
We explore a political economy model of labor subsidies, extending Meltzer and Richard's median voter model to a dynamic setting. We explore only one source of heterogeneity: initial wealth. As a consequence, given an operative wealth effect, poorer agents work harder, and if the agent with median wealth is poorer than average, a politico-economic equilibrium will feature a subsidy to labor. The dynamic model does not have capital, but it has perfect markets for borrowing and lending. Because tax rates influence interest rates, another channel for redistribution appears, since a decrease in current interest rates favors agents with a negative (below-average) asset position. ; By the same token?and as is typically the case in dynamic politico-economic models with rational agents?the setting features time-inconsistency: the median voter would like to commit to not manipulating interest rates in the future. Under commitment, and under the assumption that preferences admit aggregation, we show that labor subsidies subsist only for one period; after that, subsidies are zero. That is, under commitment, the median voter takes advantage of the voting power once and for all. His wealth moves closer to that of the mean (which is zero), but afterwards he refrains voluntarily from further subsidization. Under lack of commitment, which we analyze formally by looking at the Markov-perfect (time-consistent) equilibrium in a game between successive median voters in the same environment. Instead, subsidies persist?they are constant over time?and are more distortionary than under commitment. Moreover, in the situation without commitment, the median voter does not manage to reduce asset inequality, unlike in the commitment case.
AUTHORS: Azzimonti-Renzo, Marina; Eva de Francisco; Krusell, Per
DATE: 2006

Working Paper
Partisan cycles and the consumption volatility puzzle
Standard real business cycle theory predicts that consumption should be smoother than output, as observed in developed countries. In emerging economies, however, consumption is more volatile than income. In this paper the authors provide a novel explanation of this phenomenon, the ?consumption volatility puzzle,? based on political frictions. They develop a dynamic stochastic political economy model where parties that disagree on the size of government (right-wing and left-wing) alternate in power and face aggregate uncertainty. While productivity shocks affect only consumption through responses to output, political shocks (switches in political ideology) change the composition between private and public consumption for a given output size via changes in the level of taxes. Since emerging economies are characterized by less stable governments and more polarized societies, the effects of political shocks are more pronounced. For a reasonable set of parameters the authors confirm the empirical relationship between political polarization and the ratio of consumption volatility to output volatility across countries.
AUTHORS: Azzimonti-Renzo, Marina; Talbert, Matthew
DATE: 2011

Working Paper
The dynamics of public investment under persistent electoral advantage
This paper studies the effects of asymmetries in re-election probabilities across parties on public policy and its subsequent propagation to the economy. The struggle between opposing groups ? that disagree on the composition of public consumption ? results in governments being endogenously short-sighted: Systematic under investment in infrastructure and overspending on public goods arise, as resources are more valuable when in power. Because the party enjoying an electoral advantage is relatively less short-sighted, it devotes a larger proportion of government revenues to productive public investment. Political turnover, together with asymmetric policy choices, induces economic fluctuations in an otherwise deterministic environment. The author characterizes the long-run distribution of capital and shows that output increases on average with political advantage, despite the fact that the size of the government expands as a percentage of GDP. Volatility, on the other hand, is non-monotonic in political power and is an additional source of inefficiency.
AUTHORS: Azzimonti-Renzo, Marina
DATE: 2011

Journal Article
The political economy of balanced budget amendments
A balanced budget amendment is a constitutional rule requiring that the government collect enough revenue to finance its expenditures every year. The motivation for introducing such a rule is the desire to restrict deficit spending and limit increases in government debt. However, policymakers strongly disagree about the rule?s coverage and provisions. In particular, they disagree on how to define the terms revenue and expenditures and under which conditions exceptions to the rule should be allowed. In this article, Marina Azzimonti provides an overview of the arguments raised by proponents and opponents to the balanced budget amendment, emphasizing its economic consequences. She then describes recent findings in the academic literature that analyze the impact of similar rules at the state level. Finally, she summarizes theoretical findings that aim to compute the impact of a balanced budget rule on economic and policy variables, together with its effects on consumers? welfare.
AUTHORS: Azzimonti-Renzo, Marina
DATE: 2013

Working Paper
Polarized business cycles
We are motivated by four stylized facts computed for emerging and developed economies: (i) business cycle movements are wider in emerging countries; (ii) economies in emerging countries experience greater economic policy uncertainty; (iii) emerging economies are more polarized and less politically stable; and (iv) economic policy uncertainty is positively related to political polarization. We show that a standard real business cycle (RBC) model augmented to incorporate political polarization, a `polarized business cycle' (PBC) model, is consistent with these facts. Our main hypothesis is that fluctuations in economic variables are not only caused by innovations to productivity, as traditionally assumed in macroeconomic models, but also by shifts in political ideology. Switches between left-wing and right-wing governments generate uncertainty about the returns to private investment, and this affects real economic outcomes. Since emerging economies are more polarized than developed ones, the effects of political turnover are more pronounced. This translates into higher economic policy uncertainty and amplifies business cycles. We derive our results analytically by fully characterizing the long-run distribution of economic and fiscal variables. We then analyze the effect of a permanent increase in polarization on PBCs.
AUTHORS: Azzimonti-Renzo, Marina
DATE: 2013

Working Paper
The political polarization index
American politics have become increasingly polarized in recent decades. To the extent that political polarization introduces uncertainty about economic policy, this pattern may have adversely affected the economy. According to existing theories, a rise in the volatility of fiscal shocks faced by individuals should result in a decline in economic activity. Moreover, if polarization is high around election dates, businesses and households may be induced to delay decisions that involve high reversibility costs (such as investment or hiring under search costs). Testing these theories has been challenging given the low frequency at which existing polarization measures have been computed (in most studies, the series is available only biannually). In this paper, I provide a novel high-frequency measure of polarization, the political polarization index (PPI). The measure is constructed monthly for the period 1981-2013 using a search-based approach. I document that while the PPI fluctuates around a constant mean for most of the sample period prior to 2007, it has exhibited a steep increasing trend since the Great Recession. Evaluating the effects of this increase using a simple VAR, I find that an innovation to polarization significantly discourages investment, output, and employment. Moreover, these declines are persistent, which may help explain the slow recovery observed since the 2007 recession ended.
AUTHORS: Azzimonti-Renzo, Marina
DATE: 2013

Working Paper
The dynamics of public investment under persistent electoral advantage
This paper studies the effects of asymmetries in re-election probabilities across parties on public policy and their subsequent propagation to the economy. The struggle between groups that disagree on targeted public spending (e.g., pork) results in governments being endogenously short-sighted: Systematic underinvestment in infrastructure and overspending on targeted goods arise, above and beyond what is observed in symmetric environments. Because the party enjoying an electoral advantage is less short-sighted, it devotes a larger proportion of revenues to productive investment. Hence, political turnover induces economic fluctuations in an otherwise deterministic environment. I characterize analytically the longrun distribution of allocations and show that output increases with electoral advantage, despite the fact that governments expand. Volatility is non-monotonic in electoral advantage and is an additional source of inefficiency. Using panel data from US states I confirm these findings.
AUTHORS: Azzimonti-Renzo, Marina
DATE: 2013

Working Paper
Partisan conflict
American politics have become extremely polarized in recent decades. This deep political divide has caused significant government dysfunction. Political divisions make the timing, size, and composition of government policy less predictable. According to existing theories, an increase in the degree of economic policy uncertainty or in the volatility of fiscal shocks results in a decline in economic activity. This occurs because businesses and households may be induced to delay decisions that involve high reversibility costs. In addition, disagreement between policymakers may result in stalemate, or, in extreme cases, a government shutdown. This adversely affects the optimal implementation of policy reforms and may result in excessive debt accumulation or inefficient public-sector responses to adverse shocks. Testing these theories has been challenging given the low frequency at which existing measures of partisan conflict have been computed. In this paper, I provide a novel high-frequency indicator of the degree of partisan conflict. The index, constructed for the period 1891 to 2013, uses a search-based approach that measures the frequency of newspaper articles that report lawmakers' disagreement about policy. I show that the long-run trend of partisan conflict behaves similarly to political polarization and income inequality, especially since the Great Depression. Its short-run fluctuations are highly related to elections, but unrelated to recessions. The lower-than-average values observed during wars suggest a ?rally around the flag" effect. I use the index to study the effect of an increase in partisan conflict, equivalent to the one observed since the Great Recession, on business cycles. Using a simple VAR, I find that an innovation to partisan conflict increases government deficits and significantly discourages investment, output, and employment. Moreover, these declines are persistent, which may help explain the slow recovery observed since the 2007 recession ended.
AUTHORS: Azzimonti-Renzo, Marina
DATE: 2014-06-01

Working Paper
Financial globalization, inequality, and the raising of public debt
During the last three decades, the stock of government debt has increased in most developed countries. During the same period, we also observe a significant liberalization of international financial markets and an increase in income inequality in several industrialized countries. In this paper we propose a multicountry political economy model with incomplete markets and endogenous government borrowing and show that governments choose higher levels of public debt when financial markets become internationally integrated and inequality increases. We also conduct an empirical analysis using OECD data and find that the predictions of the theoretical model are supported by the empirical results.
AUTHORS: Azzimonti-Renzo, Marina; Quadrini, Vincenzo; Eva de Francisco
DATE: 2012

Journal Article
Barriers to foreign direct investment under political instability
AUTHORS: Azzimonti-Renzo, Marina; Sarte, Pierre-Daniel G.
DATE: 2007

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