Why Governments Fail

When governments fail — and they do so with predictable regularity — nations fail. But why do governments fail? That’s because humans constitute the government, and humans by nature are myopic, greedy, ignorant, egotistic, and stupid. Those flaws, generally present in modest measures in all of us, get exaggerated in people who wield power. People in government can be relied upon to be the worst exemplars of the human race. The greater the power, the lower on the humanity scale a person is likely to be. As Lord Acton said, “Great men are almost always bad men.”[1]

The basic problem is that for the government to do its job, whatever that may be, it has to have power. That power attracts the most power-hungry, anyway. But even if by some chance, someone with little ambition does get in a position of authority, that authority itself frequently corrupts the person.

So there’s the bind: government has to have power; power attracts the worst kind of people; these people are usually not wise and are corrupt; they end up destroying the nation through poor governance. The slogan is “Minimum government, maximum governance.” And the reality is “Maximize government, minimize governance.”

Solution: limit the role of the government, and keep it small so that those in government have very little power. That is, limit the role of the state.

In the next few posts, I will explore this topic of why government must be severely limited. For now, here’s a bit from an entry from 2008: Of Kakistocracies, Principals and Agents.

Benevolent and Predatory Governments

One can assume that the government is comprised of enlightened politicians whose altruistic objective is to maximize social welfare. In other words, the government is benevolent. Or one can take the more realistic albeit extreme position that governments are run by self-interested people whose venality compels them to maximize their private gains at the cost of social welfare. In short, the government is predatory.

Still, depending on how long the time horizon of their predation is, predatory governments can be classified into “roving bandits” or “stationary bandits.” The former have a short-term outlook and do not “cultivate” the private economy to maximize their loot. Part of that strategy would be to steal the resources that would have provided public goods. In contrast, the stationary bandit would attempt to maximize the total output of the economy all the better to extract the most over a longer time horizon by providing public goods that complement private goods and private effort.

One can reasonably conclude that in India’s colonial British government was mostly predatory with a short planning horizon and was not benevolent. The interesting question is whether the governments after political independence were roving bandits or stationary bandits. Because India is a democracy of sorts where governments get voted out of office, it imposes a severe endogenously determined short planning horizon and therefore the governments are forced to play the roving bandit role. This could partly explain the lack of adequate amounts of public goods. Any government could reason that there is no point in spending money on public goods instead of just stealing the resources if the rewards of using public resources to provide public goods end up enriching some successor bandit government. This is the classic tragedy of the commons scenario.

Principals and Agents

The Indian story gets more interesting when considered in the light of agency theory. In any sufficiently large economy, the politicians cannot directly implement policy. They are forced to rely on a bureaucracy. Broadly speaking, the citizens are the principals and the politicians are their agents who are entrusted with the task of executing the desired goals of the citizens. The politicians, in turn, are the principals who employ bureaucrats as their agents to execute the policies.

This is analogous to the situation where the shareholders are the principals and the CXOs are the agents. The CXOs in turn are the principals and depend on their agents—the middle and lower level managers—to implement their plans. Regardless of whether the CXOs are benevolent or not, their agents have a role to play in the overall achievement of the objectives of the organization.

The basic problem called the “agency problem” is that the principal’s objectives and the agents’ objectives can diverge. Thus, the citizens’ objective would differ from their agents’—the politicians—and the politicians’ objectives differ from the bureaucrats’ objective. The principal’s objective can be served by actions that are costly to the agent and therefore unless the agent’s actions are observed and the consequences properly evaluated, the agent is likely to not take the costly actions that meet the principal’s objective.

There are mechanisms that create the proper incentives for agents to do the bidding of the principals, however. Which mechanism is appropriate depends on the nature of the principals and the nature of the agents. (Efficiency wages, for example, is a way to address the agency problem in the case of firms and workers.)

The politicians (as the principals in the government) could be either benevolent or predatory. The bureaucrats as the agents could be “professional” in the sense that they care about social welfare, or they could be “selfish” where their objective is to maximize their own incomes by extracting bribes from the citizens for the public goods. In this simple model, only one out of four possibilities yields the socially optimal amount of public goods—the case where the government is benevolent and the bureaucrats are professional.

Consider one of the other three cases: predatory government and selfish bureaucrats. The bureaucrats extract bribes from the citizens and also steal some of the resources meant for the provision of public goods. The bureaucrats then share part of those gains with the government based on some form of bargaining that reflects how easy or difficult it is for the principal (the government) to monitor the efforts of the agents (the bureaucrats) and the amount of bribes extracted by the agents from the citizens. If monitoring is costly, then the government has to take a smaller share of the earnings of the bureaucrats.

Uninformed Citizens

And that is not all. What if the citizens are wrong in their evaluation of what is socially beneficial and in their best interests? If they systematically err in their objectives, then even if those objectives were faithfully accepted by their agents (the politicians), and the bureaucrats as the agents of the political principals were to faithfully implement the policies consistent with those objectives, it could still lead to sub-optimal outcomes. Now we have eight alternative outcomes from the interaction of “informed” or “uninformed” citizens, “predatory” or “benevolent” governments, and “professional” or “selfish” bureaucrats. And in only one case out of those eight—informed, benevolent, professional—is the outcome a socially optimal quantity of public good. This analytical result stands up to empirical observation. In real life, the percentage of cases where the socially optimal outcome is obtained is extremely rare.

Conclusion

Governments fail because usually the citizens are not very clever, the politicians are power-grubbing cretins, and the bureaucrats are corrupt ignoramuses. The solution is therefore to keep government small and its scope severely limited.

NOTES:

[1] Lord Acton in a letter dated April 5, 1887, addressed to Mandell Creighton:

I cannot accept your canon that we are to judge Pope and King unlike other men, with a favorable presumption that they did no wrong. If there is any presumption it is the other way against holders of power, increasing as the power increases. Historic responsibility has to make up for the want of legal responsibility. Power tends to corrupt and absolute power corrupts absolutely. Great men are almost always bad men, even when they exercise influence and not authority: still more when you superadd the tendency or the certainty of corruption by authority. There is no worse heresy than that the office sanctifies the holder of it. That is the point at which the negation of Catholicism and the negation of Liberalism meet and keep high festival, and the end learns to justify the means.