Can Market Failure Cause Political Failure?

31 Pages Posted: 30 Sep 2011

See all articles by Madhav S. Aney

Madhav S. Aney

Singapore Management University - School of Economics

Maitreesh Ghatak

London School of Economics (LSE) - Department of Economics

Massimo Morelli

Bocconi University

Date Written: July 2011

Abstract

We study how inefficiencies of market failure may be further amplified by political choices made by interest groups created in the inefficient market. We take an occupational choice framework, where agents are endowed heterogeneously with wealth and talent. In our model, market failure due to unobservability of talent endogenously creates a class structure that affects voting on institutional reform. In contrast to the world without market failure where the electorate unanimously vote in favour of surplus maximising institutional reform, we find that the preferences of these classes are often aligned in ways that creates a tension between surplus maximising and politically feasible institutional reforms.

JEL Classification: O12, O16, O17i

Suggested Citation

Aney, Madhav S. and Ghatak, Maitreesh and Morelli, Massimo, Can Market Failure Cause Political Failure? (July 2011). LSE STICERD Research Paper No. EOPP029, Available at SSRN: https://ssrn.com/abstract=1935775

Madhav S. Aney (Contact Author)

Singapore Management University - School of Economics

90 Stamford Road
178903
Singapore

Maitreesh Ghatak

London School of Economics (LSE) - Department of Economics ( email )

Houghton Street
London WC2A 2AE
United Kingdom
44 20 7852 3568 (Phone)
44 20 7955 6951 (Fax)

HOME PAGE: http://sticerd.lse.ac.uk/dps/adds/ghatak/cv-lse-sept02.pdf

Massimo Morelli

Bocconi University ( email )

Via Roentgen 1
Milan, 20136
Italy

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