The Political Economy of Conquering Inflation: The Impact of Elite Opposition and Elite Consensus on Inflation-Stabilization Public

Abstract

Why do political elites make public proclamations about the future? What influence, if at all, do elites' statements have on the behavior of their audience? I argue that political elites' public statements can be critical in signaling information about the economy. I examine the effect of political opposition on the content and clarity of elites' proclamations in the news. I also examine political elites' cues on households' inflation expectations and inflation outcomes. The theory offers a political economy model of elite and household information transmission where inflation expectations are endogenously determined. Unlike previous, single-sender models, I present a model where strategically minded political elites can offer counter claims to another elite's pronouncements. I find that the ability for one elite to confirm or refute another elite's message influences how precisely elites can transmit information to households. The testable hypotheses that I consider are that political opposition is associated with greater information precision and that greater information precision attenuates inflation expectations, leading to lower inflation. I then test these hypotheses using individual and country level data of 6 Latin American countries, between 1990-2010. Results provide some support for my hypotheses, however, significant across country variation in the estimates generates many interesting new questions.

Table of Contents

1 Why Communication Influences Inflation 11

1.1 Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11
1.2 A New Model of Inflation . . . . . . . . . . . . . . . . . . . . . . . . . . . 15
1.3 Political Determinants of Communication . . . . . . . . . . . . . . . . . . 17
1.4 Plan of the Dissertation . . . . . . . . . . . . . . . . . . . . . . . . . . . . 21

2 Political Communication and Inflation Expectations 22

2.1 Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 22
2.1.1 Inflation and its Consequences . . . . . . . . . . . . . . . . . . . . 24
2.2 Literature Review . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 37
2.2.1 Bargaining . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 38
2.2.2 Credible Commitment . . . . . . . . . . . . . . . . . . . . . . . . 42
2.2.3 Political Business Cycles . . . . . . . . . . . . . . . . . . . . . . . 47
2.3 Information and Uncertainty . . . . . . . . . . . . . . . . . . . . . . . . . 49
2.3.1 Multiple Senders . . . . . . . . . . . . . . . . . . . . . . . . . . . 54
2.3.2 Endogenous Inflation Expectations . . . . . . . . . . . . . . . . . . 55
2.4 Conclusion . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 61

3 A Theory of Information Transmission 64

3.1 Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 64
3.1.1 When Talk is Cheap . . . . . . . . . . . . . . . . . . . . . . . . . 66
3.1.2 Assumptions . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 70
3.1.3 Model Actors . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 76
3.2 The Model . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 79
3.2.1 Game Sequence . . . . . . . . . . . . . . . . . . . . . . . . . . . . 81
3.2.2 Utility functions . . . . . . . . . . . . . . . . . . . . . . . . . . . 82
3.2.3 Equilibrium Definitions and Further Notation . . . . . . . . . . . . 85
3.2.4 Political Consensus . . . . . . . . . . . . . . . . . . . . . . . . . . 86
3.2.5 Special Case of Multiple Sender Model: Single Sender Game . . . 92
3.2.6 Political Opposition . . . . . . . . . . . . . . . . . . . . . . . . . 94
3.3 Model Results . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 98
3.4 Heterogeneous Households . . . . . . . . . . . . . . . . . . . . . . . . . . 101
3.5 Conclusion . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 102

4 Testing the Argument: Political Opposition 104

4.1 Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 104
4.2 Theoretical Model Recap . . . . . . . . . . . . . . . . . . . . . . . . . . . 107
4.3 The Empirical Model . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 112
4.3.1 Estimation Model . . . . . . . . . . . . . . . . . . . . . . . . . . . 112
4.4 Data and Variables . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 113
4.4.1 Dependent Variable: Information Precision . . . . . . . . . . . . . 113
4.4.2 Main Independent Variable: Elite Opposition . . . . . . . . . . . . 121
4.5 Empirical Analysis . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 128
4.6 Conclusion . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 133

5 Testing the Argument: Economic Performance 135

5.1 Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 135
5.2 Information, Inflation Expectations, and Inflation . . . . . . . . . . . . . . 136
5.3 The Empirical Model . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 137
5.3.1 Estimation Model . . . . . . . . . . . . . . . . . . . . . . . . . . . 139
5.3.2 Priors . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 140
5.4 Data . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 141
5.4.1 Dependent Variable: Inflation . . . . . . . . . . . . . . . . . . . . 142
5.4.2 Independent Variable: Inflation Expectations . . . . . . . . . . . . 145
5.4.3 Independent Variable: Information Precision . . . . . . . . . . . . 147
5.5 Classical Analysis . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 148
5.6 Bayesian Multilevel Modeling . . . . . . . . . . . . . . . . . . . . . . . . 150
5.7 Opposition, Communication, and Economic Performance . . . . . . . . .154
5.8 Conclusion . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 156

6 Conclusion 157

6.1 Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 157
6.2 Implications . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 160
6.3 Suggestions for future research . . . . . . . . . . . . . . . . . . . . . . . . 162

Appendix 163
A.1 Proposition and Proofs for Political Consensus . . . . . . . . . . . . . . . . 163
A.2 Propositions and Proofs for Political Opposition . . . . . . . . . . . . . . . 163

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School	Laney Graduate School
Department	Political Science
Degree	PhD
Submission	Dissertation
Language	English
Research Field	Political Science, General
Mot-clé	Macroeconomic Policy Inflation Political Economy
Committee Chair / Thesis Advisor	Reinhardt, Eric, Emory University
Committee Members	Zha, Tao, Emory University Linzer, Drew, Emory University Hallerberg, Mark, Hertie School of Governance

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