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Rent Extraction - Politicians are "Mud Farmers"

Rent Extraction - Politicians are "Mud Farmers"

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In describing rent extraction, McChesney uses a variety of tools, including anecdotes and even popular literature. For example, he borrows William Faulkner’s “mud farmers”—extortionists who created a sufficiently muddy road to trap passers-by in order to elicit “contributions” from them. He also provides a variety of examples of public-policy extortion—threats to reduce prices in a regulated industry, to withdraw a license to operate, to undermine a firm’s fixed-cost investments in brand-name capital by producing subsidized quality guarantees, to enact military conscription (and allow a buy-out option), to heighten environmental regulations, and to impose interest-rate ceilings. Prominent contemporary examples include Clinton’s health-care proposals, threats to regulate tobacco, and proposals in the realms of product-liability legislation, tort reform, and flat taxes.
In describing rent extraction, McChesney uses a variety of tools, including anecdotes and even popular literature. For example, he borrows William Faulkner’s “mud farmers”—extortionists who created a sufficiently muddy road to trap passers-by in order to elicit “contributions” from them. He also provides a variety of examples of public-policy extortion—threats to reduce prices in a regulated industry, to withdraw a license to operate, to undermine a firm’s fixed-cost investments in brand-name capital by producing subsidized quality guarantees, to enact military conscription (and allow a buy-out option), to heighten environmental regulations, and to impose interest-rate ceilings. Prominent contemporary examples include Clinton’s health-care proposals, threats to regulate tobacco, and proposals in the realms of product-liability legislation, tort reform, and flat taxes.

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Money for Nothing: Politicians, Rent Extraction, and Political Extortion: The Independent Review: The Independent Institute
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  Book  Title:     Money  for  Nothing:  Politicians,  Rent Extraction,  and  Political  Extortion Author:   Fred  S.  McChesney Published:   Cambridge,  Mass.:  Harvard  University Press,  1997 Price:   Pages:   Reviewer:   $45.00  (hardcover) 224 D.  Eric  Schansberg

 

Affiliation:     Indiana  University,  Southeast
This  book  review  appeared  in  the  Summer  1998  issue  of  The  Independent  Review

 

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In  Money  for  Nothing,  Fred  McChesney  ably  describes  a  model  of  rent extraction,  discusses  related  empirical  work,  and  indicates  interesting extensions  of  the  model.  Although  he  acknowledges  the  contributions  of rent-­creation  models  in  public-­choice  economics,  he  points  to  the  inability of  those  models  to  explain  certain  phenomena.  Throughout,  he  makes clear  that  the  rent-­extraction  model  is  meant  to  supplement,  not  replace, rent-­creation  models.  McChesney’s  primary  critique  of  rent-­creation models  is  that  they  have  focused  largely  on  the  demand  side,  implicitly representing  suppliers  as  mere  passive  brokers.  Wouldn’t  one  expect self-­interested  suppliers,  especially  those  in  positions  of  great  power,  to act  more  aggressively? Although  rent  extraction  is  McChesney’s  primary  concern,  he  also describes  rent  creation,  often  to  use  it  as  a  foil.  Simply  put,  rent  creation is  an  attempt  to  gain  political  favor,  whereas  rent  extraction  an  attempt  to avoid  political  disfavor.  In  describing  rent  extraction,  McChesney  uses  a variety  of  tools,  including  anecdotes  and  even  popular  literature.  For example,  he  borrows  William  Faulkner’s  “mud  farmers”—extortionists who  created  a  sufficiently  muddy  road  to  trap  passers-­by  in  order  to  elicit “contributions”  from  them.  He  also  provides  a  variety  of  examples  of public-­policy  extortion—threats  to  reduce  prices  in  a  regulated  industry,  to withdraw  a  license  to  operate,  to  undermine  a  firm’s  fixed-­cost investments  in  brand-­name  capital  by  producing  subsidized  quality guarantees,  to  enact  military  conscription  (and  allow  a  buy-­out  option),  to heighten  environmental  regulations,  and  to  impose  interest-­rate  ceilings. Prominent  contemporary  examples  include  Clinton’s  health-­care proposals,  threats  to  regulate  tobacco,  and  proposals  in  the  realms  of product-­liability  legislation,  tort  reform,  and  flat  taxes. In  view  of  all  the  examples,  it’s  surprising  that  the  concept  of  rent extraction  has  been  slow  to  surface.  McChesney  illustrates  the  oft-­met character  of  the  paired  concepts  by  weaving  everyday  examples  into  his description  of  the  contrast  between  rent  creation  and  rent  extortion: bribes  versus  extortion,  carrots  versus  sticks,  and  Thomas  Sowell’s observation  that  armed  robberies  typically  involve  no  violent  act.  But McChesney  also  provides  compelling  explanations  for  why  rent  extraction has  been  overlooked.  It  is  not  surprising,  for  instance,  that  economists would  focus  on  actual,  as  opposed  to  threatened,  transactions. After  describing  rent  extraction,  McChesney  develops  the  model  more fully.  He  establishes  the  conditions  under  which  rent  creation  or  extraction will  occur.  In  particular,  the  relative  attractiveness  of  the  two  strategies depends  on  the  elasticities  of  demand  and  supply.  If  demand  is  relatively inelastic,  rent  creation  will  occur;;  if  supply  is  relatively  inelastic,  rent extraction.  The  decisive  question  is,  Which  group  does  the  politician  have more  completely  over  the  barrel? This  analysis  leads  to  a  number  of  other  interesting  observations.  For instance,  McChesney  notes  that  “the  popular  revulsion  against  paying politicians  presupposes  that  payments  are  made  for  special  favors  since the  calls  for  reform  constantly  focus  on  limiting  what  individuals  can  give —not  the  total  of  what  politicians  can  take”  (p.  54).  (He  could  have  made the  same  point  by  noting  how  much  the  public  despises  the  presence  of foreign  lobbyists.)  Although  producers  account  for  the  bulk  of  such activity,  McChesney  also  discusses  consumer  groups.  His  example  of  the National  Rifle  Association’s  spending  money  to  avoid  additional  gun regulation  is  particularly  compelling.  The  irony  is  that  the  existence  of  the

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Money for Nothing: Politicians, Rent Extraction, and Political Extortion: The Independent Review: The Independent Institute
regulation  is  particularly  compelling.  The  irony  is  that  the  existence  of  the organization  lowers  transaction  costs  for  the  politicians  negotiating  and collecting  funds,  making  expropriation  easier. As  has  been  done  with  regard  to  rent  creation,  McChesney  documents the  inefficient  behaviors  of  people  seeking  to  protect  themselves  from expropriation.  At  least  in  type,  these  examples  remind  one  of  the corruption  of  third-­world  governments.  He  also  discusses  this  issue  in light  of  the  dilemma  of  how  to  have  a  state  strong  enough  to  protect  our property  rights  yet  somehow  to  constrain  it  from  expropriating  our property. McChesney  devotes  much  attention  to  the  game-­theoretic  aspects  of  the “contracts”  between  the  politician  and  the  extorted.  In  particular,  the extralegality  of  the  contracts  creates  some  interesting  dilemmas.  Given that  expropriation  will  be  threatened  and  that  both  parties  prefer  longer-­ term  contracts,  it  is  easy  to  imagine  the  importance  of  “good  faith,” reputation,  and  contract  durability.  In  contrast,  both  parties  have  their concerns:  the  extorter  worries  about  his  inability  to  credibly  commit  to inflicting  pain,  and  the  extorted  fears  ex  post  political  opportunism. McChesney  views  these  contractual  arrangements  as  a  repeated  game, pointing  out  the  effect  of  potential  legislative  turnover  and  the  role  of tenuous  majority-­party  status  and  a  seniority-­based  committee  system  in extending  expected  contract  durability.  He  also  notes  that  with  the number  of  committee  members,  subcommittees,  and  unelected  staff members  increasing  in  recent  years,  there  are  more  people  to  deal  with in  arranging  such  contracts,  making  their  execution  more  costly  and therefore  less  likely. The  book  has  other  merits  as  well.  Foremost,  it  is  artfully  written.  In  his opening  chapter,  “Background,”  McChesney  provides  an  eloquent synopsis  of  the  history  of  economic  thought  with  respect  to  theories  of regulation.  The  chapter  serves  as  an  especially  useful  introduction  for  the uninitiated.  Along  the  way,  he  also  provides  “a  short  history  of  federal income  taxation”  (pp.  90–96)  and  a  thorough  discussion  of  the  many ways  by  which  politicians  can  be  compensated,  including  in-­kind  gifts, honoraria,  and  purchases  of  tickets  to  various  high-­priced  meals  (pp.  45– 55).  Putting  aside  consideration  of  the  book’s  expense,  it  (or  excerpts from  it)  would  make  a  nice  addition  to  any  course  that  covers  public policy. The  book  does  have  a  few  deficiencies.  For  instance,  McChesney  draws excessively  strong  inferences  from  the  correlation  between  average tenure  (as  a  proxy  for  contract  durability)  and  the  recent  acceleration  in tax  legislation  (pp.  102–3).  Average  tenure  is  often  a  flawed  proxy  for measuring  expected  tenure.  And  he  mostly  compares  the  period  1965– 66  to  1975–76,  which  overlooks  the  impact  of  the  Watergate  class  on  that measure  of  tenure.  Moreover,  it  turns  out  that  continuation  rates  actually increased  significantly  after  the  campaign  finance  “reforms”  of  1974  (see W.  Robert  Reed  and  D.  Eric  Schansberg,  “How  Long  Do  Congressmen Stay  in  Office?”  Economics  and  Politics  [1990]:  173–92,  and  “The Behavior  of  Congressional  Tenure  over  Time,  1953–1991,”  Public  Choice [1992]:  183–203). McChesney  discusses  a  number  of  interesting  extensions  of  the  rent-­ extraction  model,  but  other  important  questions  remain  unanswered  and even  unasked.  First,  it  is  not  clear  why  individuals  would  propose threatening  legislation  in  cases  where  the  benefits  of  the  extortion  would go  to  other  individuals—in  particular,  to  those  whose  ideologies  are opposite  their  own.  Regarding  the  NRA  case,  for  example,  why  would Charles  Schumer  threaten  greater  degrees  of  gun  control  if  the  threat serves  only  to  increase  campaign  contributions  to  members  of  Congress who  oppose  such  measures?  One  would  like  to  see  “micro”  explanations for  such  phenomena. As  McChesney  notes,  the  likelihood  of  extortion  increases  as  benefits increase  and  costs  decrease.  But  more  specifics  would  be  useful  to promote  study  of  the  impact,  for  instance,  of  the  amount  of  wealth available  to  be  transferred,  of  the  varying  ability  of  politicians  to  credibly commit  to  expropriation,  and  of  the  underlying  ideology  of  politicians  and the  public.  For  example,  he  assumes  the  “second-­best  world,”  in  which expropriation  will  take  place,  before  wishing  in  his  conclusion  for something  closer  to  the  optimal  world  of  a  greatly  reduced  state.  But  what conditions  would  cause  us  to  move  toward  such  a  world? Given  the  parallels  between  rent  creation  and  rent  extraction,  it  seems strange  that  the  key  to  effective  rent  creation—imposing  subtle  and diffused  costs  on  a  rationally  ignorant  and  apathetic  public—is  not  dealt with  well  in  a  model  of  rent  extraction.  With  rent  creation,  when  the  hard-­ to-­see  costs  become  obvious,  reform  tends  to  follow.  In  contrast,  the costs  of  rent  extraction  are  obvious  from  the  outset.  If  interest  groups know  they  are  being  extorted,  why  do  they  tolerate  it?  Why  don’t  they fund  challengers?  The  implicit  assumption  may  be  that  barriers  to  entry are  too  high  for  prospective  challengers  or  that,  once  in  office,  any  other politician  would  act  the  same  way.  But  these  possibilities  are  neither  well specified  nor  totally  satisfying. Likewise,  McChesney  claims  that  a  politician  gains  more  than  a  trivial amount  if  he  has  to  go  through  with  his  extortion  bluff  (p.  39).  But  this outcome  is  not  at  all  clear.  The  benefits  of  regulation  would  be  diffused among  all  members  of  Congress—at  best,  indirectly  and  trivially benefiting  him—but  the  electoral  costs  could  be  high.  McChesney  asks

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benefiting  him—but  the  electoral  costs  could  be  high.  McChesney  asks why  “politicians’  returns  from  rent  extraction  are  so  small”  (p.  162). Perhaps  my  conjecture  holds  the  answer. Finally,  he  wrestles  a  bit  with  the  impact  of  limits  on  campaign contributions  and  concludes  correctly  that  their  effect  would  be  more complicated  than  one  might  initially  expect  (pp.  168–70).  Another  fruitful topic  along  the  same  lines  is  the  possible  impact  of  term  limits. McChesney  wryly  notes  that  the  upshot  of  all  his  considerations  “hardly corresponds  to  the  legislative  process  as  taught  in  eighth-­grade  civics classes”  (p.  45).  One  would  hope  that  models  of  rent  creation  and  rent extraction  would  soon  become  part  of  the  standard  curriculum. Buy  Money  for  Nothing:  Politicians,  Rent  Extraction,  and  Political Extortion  at  Amazon.com  for  $45.00  (hardcover)

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