Ignorance isn't bliss: Uninformed voters drive budget cycles

Abstract

The paper shows that blissful ignorance does not apply to fiscal policy. In countries with uninformed voters, politicians attempt to 'buy' votes by substantially increasing government expenditures in election years. This generates budget cycles and costly macroeconomic fluctuations. Unlike much of the earlier literature that found this effect only in low-income countries or new democracies, we demonstrate that it has occurred in many prosperous countries with an established political system. In particular, constructing a comprehensive Informed-voter (INFOVOT) index and quantifying it for the 1995-2014 period, we show that only the top third of OECD countries with well informed voters has not experienced political budget cycles. In contrast, the bottom third of OECD countries with poorly informed voters has consistently seen a deterioration of the budget balance by 0.7-1.2% of GDP in election years. This represents an increase of 18-30% relative to their usual (non-election) budget deficits. Interestingly, for the intermediate group of countries with moderately informed voters, for example Austria, France, Germany, Japan, Luxembourg, the U.K. and the U.S., election budget cycles occurred during the 1995-2008 period, but not since. We discuss why their election year deficit hikes (of 0.5-0.8% of GDP) may have disappeared after the Global financial crisis - drawing on the rational inattention literature. All our results are supported by a large number of robustness checks, including the use of a yearly version of the index (YINFOVOT). We conclude by offering some policy recommendations that may improve the voters' incentives to process fiscal policy information. As such, they could help to escape an 'ignorance trap' whereby uniformed voters choose politicians whose policies reinforce the voters' ignorance.