The political business cycle and the peacock's tail

Abstract

Signalling models of the Political Business Cycle interpret deviations from optimal fiscal rules on election years as signals of competence by high ability incumbents. The signalling argument explicitly or implicitly treats increased expenditure and/or tax cuts before elections as efficient in the sense that it helps bring a high(er) ability candidate to office. We challenge this view by employing a simple, single-dimensional model of the PBC that enables us to examine voter welfare. We show that signalling can be very detrimental to voter welfare in some cases and derive conditions under which the PBC can be mitigated.

JEL Classification: H39, C72