Democracies and Debt, a synopsis from The Economist
Almost the world's population now lives in a democracy. For a long time democracy was a dirty word among political philosophers. Plato warned that democratic leaders would "rob the rich, keep as much of the proceeds as they can for themselves and distribute the rest to the people." James Madison, one of America's founding fathers feared that democracy would lead to "a rage for paper money, for an abolition of debts, for an equal division of property and for any other improper or wicked projects." Similarly, John Adams, the country's second president, worried that rule by the masses would lead to heavy taxes on the rich in the name of equality. As a consequence, "the idle, the vicious, the intemperate would rush into the utmost extravagance of debauchery, sell and spend all their share, and then demand a new division of those who purchased from them."
With much of the democratic world now in the throes of a debt crisis, it is tempting to ask whether the fears of Madison and Adams have come to pass. Modern governments play a much larger role in the economy than ancient Greeks or the founding fathers could have imagined. This makes political leaders a huge source of patronage, in the form of business contracts, social benefits, jobs, and tax breaks. As the late political scientist, Mancur Olson pointed out, these goodies are highly valuable to the recipients but the cost to the average voter of any single perk will be small. Beneficiaries will have every incentive to lobby for the retention of their perks and the taxpayers will have little reason to campaign against them. Over time the economy will be weighted down by all the costs, like a barnacle-encrusted ship. The Greek economy could be seen as a textbook example of these problems.
One answer could be to take a fiscal policy out of the hands of elected leaders, just as the responsibility for monetary policy has been handed to independent central bankers. Another approach, with which America has occasionally flirted, is to pass decisions to a bipartisan commission. (They may be the best answer to the "fiscal cliff" that looms in 2013.)
For a long time, there did not seem to be any limit to the amount democracies could borrow. Creditors have been more patient with democratic governments than with other regimes, probably because the risk of abrupt changes of policy are reduced. But this has postponed the crunch point, rather than eliminated it-and allowed stable democracies to accumulate higher debt, relative to the GDP, than many, more volatile countries ever achieved. Governments can, as Madison suggested, confiscate the wealth of domestic creditors via inflation, taxes, or default. But however often they vote, democracies cannot make foreign lenders extend credit. That harsh truth is now being discovered.