PRIMARY AND SECONDARY REFORM

I. INTRODUCTION The export-led growth performance of the East Asian newly industrialized countries has increased interest in liberalization among developing countries in general. Such reforms are felt to benefit the economy, not only because they reduce the usual economic distortions, but also because they tend to drive agents out of rent seeking and into productive activities. However, the presence of lobbyists working for vested interests, such as import competing industries, makes these distortions difficult to remove.(1) Developed countries, of course, face similar problems. In analyzing the political and economic consequences of a reform, it is essential to consider the full range of rent-related activities in which individuals may engage. Our model focuses on two activities, rent seeking and lobbying, and examines the feedback effects resulting from reforms which target one or the other of these activities.(2) In particular, when people are driven out of rent seeking by a reform, their most natural alternative may be some other rent-related activity such as lobbying. We refer to reforms which target lobbying as primary reforms, while reforms which target rent-seeking activities are called secondary reforms. Primary reforms target the decision making process. An example is an institutional reform which lowers (all else equal), the marginal product of lobbying. Secondary reform focuses on the side effects resulting from the policy which has been put in place by lobbying. An example is the replacement of quotas by their tariff equivalent (tariffication) in an attempt to reduce rent seeking associated with the trade regime. In our model, import competing firms may lobby for protection which takes the form of a combination of tariffs and quotas. Raising the domestic price of the imported good increases the returns to sector specific capital located in the protected industry. To the extent that binding quotas are utilized, rents will accrue to those who acquire the import licenses. Rent seeking consists of resources (time) spent attempting to acquire the import licenses.(3) An important feature of the model is that, for the individuals involved, rent seeking and lobbying are highly substitutable activities. The presumption is that the skills required for these activities are more closely related to one another than they are to productive activities. This type of substitution between rent related activities is suggested by Rodrik [1994, p. 86, footnote 6]: "To the extent that rent-seeking behavior dissipates some of the rents of trade protection, the efficiency gains of reform may be larger than those measured here. However, the rent-seeking literature generally exaggerates these gains. If individuals can waste resources competing for the rents generated by, say, quotas, they can also waste resources lobbying the government for the reimposition of quotas that have been taken away."(4) Our assumption about the nature of rent seeking and lobbying activities has important implications for understanding the response to reform. In particular, this response depends on the extent to which reform is directed at rent seeking (secondary reform) or lobbying (primary reform). Feedback effects arise both because of labor market linkages, and because rents are created as a side effect of lobbying for trade protection. As we show below, the feedback effects from primary reforms often tend to reinforce the original reform, while the feedback effects associated with secondary reforms tend to retard the reform process. Near autarky, however, a primary reform can actually raise rents by increasing the volume of trade. Thus, in this situation, any primary reform should presumably be accompanied by secondary reform. Though the model presented here is extremely simple, and is a rather specific example of reform of the trade regime, the insights gained may apply to rent seeking and lobbying more generally. …