Seminar 3 (Oct. 2)

I. Democratization

Consider Acemoglu and Robinson's (2001) paper on the extension of the franchise

1. Explain verbally the main building blocks of A&R's theory of democratization
2. What does it mean that the "revolution constraint is binding"
3. Explain the meaning of and compute the value functions of the poor, i. e. V^p(R), V^p(D), V^p(¦Ì^?,E), and V^p(¦Ì^h,E;¦Ó). Why does it help us knowing these?
   You can assume that the elites choose the highest possible tax rate when the labor movement is strong.
4. Discuss briefly what would happen if
   1. Revolutions become less destructive with a strong labor movement (higher ?^h)
   2. Home production becomes more productive
   3. Inequality increases
5. Consider an extension of the model where in democratic regimes, the elites can at certain times (when they are strong) commit a coup and revert to elite controlled government. How would this affect
   1. The workers' valuation of temporary redistribution versus transition to democracy
   2. The elites capability to avoid democratization
6. So far, China has followed a strategy not involving extension of the franchise. However, it may be argued that the Communist party's strong emphasis on infrastructure and industrial investments is a way to redistribute towards the poor. Discuss whether it could be that commitment problems are less severe when redistribution is through investments than pure transfers, and whether this can explain the lack of democratization in China. (You may consult Wall?e (2012) for further discussions of these issues)
7. Which empirical predictions does Acemoglu and Robinson's theory have? Explain why it is nontrivial to test these and how Aidt and Franck (2015) overcome them.

II. Culture and trust

Consider a version of the "trust game": There are two players A and B. A starts with an endowment 10. At stage 1, she transfers any amount x between 0 and 10 to B and keeps the rest for herself. This is then doubled, so B receives 2x. At stage 2, player B decides an amount y to return to player A, chosen between 0 and 2x. This transfer is again doubled, so A receives 2y. B keeps whatever was not transferred and also receives a final payment of 10.

1. Set up the game tree and show A's and B's payoffs as functions of x and y. Use backwards induction to find the subgame perfect Nash equilibrium (SPNE) of the game, and explain why this outcome is not Pareto optimal.
2. Explain why this game can illustrate situations encountered in real life, for instance in market transactions.
3. Assume now that the players A and B meet regularly, say once every day, to play the trust game. They each have a (daily) discount factor ¦Â. Could they then be able to sustain trust in the game? One definition of "trust" is that A chooses x=10 and B chooses y=10.
   Hint: The main challenge is to get B to cooperate
4. Assume instead that there are many players around where every player is matched with a randomly chosen other player every period. Discuss to what extent trust can be sustained in this environment.
5. Assume players have a visible marker of identity, such as ethnicity. Could a situation where players trust the other player if they are both from the same ethnicity, but not if the other player is from a different ethnicity be a SPNE in the repeated game?
6. Is it possible to interpret Nunn and Wantchekon's (2011) findings in the light of the above analysis?