Delegation in the Regulatory State: Independent Regulatory Agencies in Western Europe

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Author: Fabrizio Gilardi

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Delegation in the Regulatory State

Delegation in the Regulatory State Independent Regulatory Agencies in Western Europe

by

Fabrizio Gilardi Lecturer in Political Science, University of Lausanne, Switzerland

Edward Elgar Cheltenham, UK • Northampton, MA, USA

© Fabrizio Gilardi 2008 All rights reserved. No part of this publication may be reproduced, stored in a retrieval system or transmitted in any form or by any means, electronic, mechanical or photocopying, recording, or otherwise without the prior permission of the publisher. Published by Edward Elgar Publishing Limited Glensanda House Montpellier Parade Cheltenham Glos GL50 1UA UK Edward Elgar Publishing, Inc. William Pratt House 9 Dewey Court Northampton Massachusetts 01060 USA

A catalogue record for this book is available from the British Library Library of Congress Cataloguing in Publication Data Gilardi, Fabrizio. Delegation in the regulatory state : independent regulatory agencies in Western Europe / by Fabrizio Gilardi. p. cm. Includes bibliographical references and index. 1. Delegation of powers—Europe, Western. 2. Administrative agencies—Europe, Western—Decision making. 3. Public administration—Europe, Western—Decision making. I. Title. JF225. G55 2008 352.8′283094—dc22

2007040572

ISBN 978 1 84720 447 9 (cased) Printed and bound in Great Britain by MPG Books Ltd, Bodmin, Cornwall

Contents List of figures List of tables Preface and acknowledgements

vii ix xi

1.

Introduction

2.

The institutional foundations of the regulatory state

13

3.

Delegation to independent regulatory agencies: credibility, political uncertainty, and veto players

28

4.

The formal independence of regulators: empirical analysis

55

5.

Interdependent delegation: the diffusion of independent regulatory agencies

73

6.

1

The diffusion of independent regulatory agencies: empirical analysis

106

7.

Conclusion

124

8.

Appendices

140 155 181

Bibliography Index

v

Figures 1.1 The spread of independent regulatory agencies in Western Europe 1.2 The formal independence of regulators in Western Europe (country averages) 3.1 The subsidy game 3.2 Discount functions and temporary preference reversals 3.3 The investment game (1) 3.4 The investment game (2) 3.5 The investment game (3) 4.1 The formal independence of regulators: average values for countries and regulatory domains 4.2 Political uncertainty in four countries 4.3 Veto players and the formal independence of regulators (country averages) 4.4 Replacement risk and the formal independence of regulators (country averages) 4.5 The formal independence of regulators as a function of veto players and the regulatory domain (predicted values) 4.6 The formal independence of regulators as a function of replacement risk and the regulatory domain (predicted values) 4.7 The formal independence of central banks as a function of veto players (predicted values) 4.8 The formal independence of regulators as a function of replacement risk (predicted values) 5.1 S-shaped diffusion curve 5.2 S-shaped diffusion curves with different slopes 5.3 Sigma convergence 5.4 Beta convergence 6.1 The spread of independent regulatory agencies in economic regulation 6.2 The spread of independent regulatory agencies in social regulation 6.3 The probability that an independent regulatory agency is established as a function of political constraints and liberalization (predicted values) vii

2 3 33 37 40 41 42 59 61 62 63 66 67 70 71 75 76 77 78 107 108

116

viii

Figures

6.4 The probability that an independent regulatory agency is established as a function of liberalization and the partisan composition of governments (predicted values) 6.5 The probability that an independent regulatory agency is established as a function of replacement risk and political constraints (predicted values) 6.6 The probability that an independent regulatory agency is established as a function of replacement risk (predicted values) 6.7 The probability that an independent regulatory agency is established as a function of the share of existing independent regulators (predicted values) 7.1 Case selection: the formal independence of regulators 7.2 Case selection: the establishment of independent regulatory agencies (positive cases) 7.3 Case selection: the establishment of independent regulatory agencies (negative cases)

117

118

119

121 128 132 133

Tables 2.1 Regulatory agencies in selected countries and domains in 2007 4.1 The formal independence of regulators: statistical analysis 4.2 The formal independence of central banks: statistical analysis 5.1 Mechanisms of policy convergence 5.2 Policy diffusion, convergence and transfer 5.3 Tax competition as prisoner’s dilemma 6.1 The diffusion of independent regulatory agencies: statistical analysis

ix

23 64 69 79 81 96 114

Preface and acknowledgements This book finds its origins in my doctoral dissertation, which was defended in March 2004 at the University of Lausanne, Switzerland. When I started the research in 2000, independent regulatory agencies had not yet become a fashionable topic in European political science, and I remember vividly the difficulties I had finding even the most basic pieces of information, such as whether an independent regulator existed in a given country and sector. This was especially true for social regulation domains. When I contacted the European Commission to ask whether they had a list of national regulatory authorities for food safety, I was amazed to learn that no such list existed. Indeed, very little systematic comparative information was available at the time. Seven years later all this has changed. Independent regulatory agencies have proliferated, and information has become much more abundant. The academic literature on the subject has also grown considerably. While in 2000 most of the literature on regulatory agencies was from and on the United States, there is now a sizeable scholarly community working on regulatory authorities and regulatory policies. As a result, numerous studies on independent agencies have appeared in print. Nevertheless, I believe that this book has maintained much of the freshness it had when the research was conceived. The dataset I assembled is still the most comprehensive available, at least for information on the formal independence of regulators, and as a result the analysis is one of the most comprehensive, while testing theoretical hypotheses in a rigorous way. I am very happy that this research is now part of a consolidated literature that has been very fruitful and that continues to explore patterns of regulation in European countries and beyond. In recent years I have benefited from the help of many people. My thanks go first of all to Dietmar Braun, who not only supervised the dissertation on which this book is based, but has always generously supported my work, intellectually, morally, and materially. I also would like to thank Alex Fischer, Olivier Giraud, Adrienne Héritier, Simon Hug, Jacint Jordana, Silja Häusermann, Martino Maggetti, Covadonga Meseguer, Sarah Nicolet, Yannis Papadopoulos and Mark Thatcher, who have all in one way or another helped me improve my work. Special thanks go to David-Levi Faur, whose support has been invaluable, both for this research and more broadly for my career trajectory. Portions of the research on which this book is based xi

xii

Preface and acknowledgements

have been presented at conferences and workshops in Grenoble (2001), Lausanne (2001), Canterbury (2001), Nice (2001), Siena (2001), Bordeaux (2002), Paris (2002), Oxford (2002), Barcelona (2002 and 2005), Lugano (2003), Edinburgh (2003), Berkeley (2003), London (2005), Norwich (2005), Budapest (2005) and Geneva (2006). I thank all participants for their insightful feedback. I also gratefully acknowledge the financial support of numerous institutions, notably the Institut d’Etudes Politiques et Internationales of the University of Lausanne, the Fondation du 450ème anniversaire of the University of Lausanne and the Swiss National Science Foundation. At Edward Elgar, I thank Catherine Elgar and Felicity Plester for their encouragement and patience, and four anonymous reviewers for helpful and supportive comments. I am also grateful to Palgrave Macmillan and the Swiss Political Science Review for permission to use material from these two articles: ●

●

‘The same, but different: central banks, regulatory agencies, and the politics of delegation to independent authorities’, Comparative European Politics, 5 (2): 303–27. ‘The formal independence of regulators: a comparison of 17 countries and 7 sectors’, Swiss Political Science Review, 11 (4): 139–67.

A few paragraphs from the first article appear in Chapters 1, 3 and 4, and a paragraph from the second in Chapter 4. Dulcis in fundo: my deepest gratitude goes to my parents, Anna and Piero Gilardi, and to my wife Erika, for everything. This book is dedicated to them.

1.

Introduction

INTRODUCTION The last two decades have been characterized by profound changes in the political economy of European countries. In some domains, such as telecommunications and energy, public monopolies have been replaced by private ownership and free markets, and in many others, forms of liberalization have been introduced. While at first this was perceived as a wave of simple deregulation, scholars gradually realized that an important part of the process was about re-regulation: freer markets were accompanied by more rules (Vogel, 1996). A somewhat paradoxical consequence of liberalization, therefore, is that regulation has become an important part of public intervention in the economy. Against this background, Giandomenico Majone (1994; 1997a) even argued that the redefinition of the role of the state as an economic actor is so important that it actually amounts to a structural transformation in which regulation has become a central activity of governments. The thesis that a regulatory state has emerged across Europe has been very influential and has made regulation an important field of study for European political scientists. Although Majone’s view of a homogeneous structural trend has been nuanced and also contested, many recent works have reaffirmed the central place of regulation in modern governance. Some authors have argued that the rise of regulation in public policy represents a major transformation not only of the state but more broadly of the way the economy is organized, so that we can speak of a new model of ‘regulatory capitalism’ (Levi-Faur, 2005b, 2006a). Regardless of labels, there is little question that regulation has acquired unprecedented importance in the governance structures of European states. This book examines the institutional foundations of this new model. In effect, the rise of regulation has been accompanied by the rise of a new type of institution, namely the independent regulatory agency. The characteristics of regulatory agencies, of course, vary considerably from one country to another, as well as across regulatory domains, but their common feature is that they have been deliberately insulated from political control. When faced with the new tasks of regulation, most governments have set up specialized authorities and set them outside the ‘chain of delegation’ that runs from voters to the administration via parliament 1

2

0

Share of independent regulators .2 .4 .6

.8

Delegation in the regulatory state

1980

1985

1990

1995

2000

Year

Figure 1.1 The spread of independent regulatory agencies in Western Europe and government (Strøm, 2000; Strøm et al., 2003). This model is not entirely new: independent regulatory agencies have long existed in the United States and in Europe they are already well established in some sectors, such as banking and financial markets. However, they have exploded since the end of the 1980s, and have now become a common institutional model in all European countries. This trend is shown in Figure 1.1, where the vertical axis represents the percentage of countrysectors in European countries where an independent regulatory agency has been established. While in 1980 independent regulators existed in only about 10 per cent of country-sectors in Western Europe, this percentage had risen to almost 80 per cent two decades later. On the one hand, the observation by the OECD that ‘one of the most widespread institutions of modern regulatory governance is the so-called independent regulator or autonomous administrative agency with regulatory powers’ (OECD, 2002: 91) is correct, but could not have been made even ten years ago. On the other hand, Figure 1.2 shows that although the trend towards the establishment of independent regulators concerns all West European countries, there are significant differences in the extent to which regulatory agencies are formally independent from elected politicians. On average, regulators

3

.4 .2 0

Average independence of regulators

.6

Introduction

GER SWI AUS BEL SPA POR GRE NET ITA FIN DEN NOR FRA SWE UK IRE

Figure 1.2 The formal independence of regulators in Western Europe (country averages) are more than twice as independent in Ireland and in the United Kingdom than in Germany and Switzerland. This book approaches these issues by asking two questions. First, why have governments chosen to delegate regulation to authorities that they can only in part control? Second, why did independent regulatory agencies spread so spectacularly during the 1990s? To answer the first question, the book develops theoretical hypotheses on the role of credible commitment capacity, political uncertainty, and political institutions in regulatory policy making. Empirically, it examines the formal independence of regulators in 17 European countries (the 15 members of the European Union before enlargement, plus Switzerland and Norway) and in seven regulatory domains (telecommunications, electricity, financial markets, competition policy, food safety, pharmaceuticals and the environment). As the analysis will show, the comparative pattern of delegation suggests that policy makers delegate so as to increase the credibility of their policy commitments, and also to tie the hands of future policy makers who may have different preferences. To answer the second question, the book inquires whether the establishment of independent regulators was only a response to these pressures, or whether it was also characterized by

4


a diffusion process whereby decisions to delegate regulation to independent authorities have been interdependent. The empirical findings show that country-specific factors matter: the explosion in the number of independent regulators in the 1990s is due in part to the need to regulate newly created markets, as well as to the political and institutional context of each country. However, these authorities have not been invented autonomously in each country: the model of the independent regulator has diffused internationally. At the beginning of the twenty-first century, independent regulatory agencies are widely accepted as an appropriate institutional model for modern regulatory policies. This conclusion, however, does not necessarily imply that independent regulators are in fact a better model: their spread may have more to do with their legitimacy in the international arena than with their actual consequences for regulatory policy making. In the rest of this introduction we will first preview the main arguments, then discuss its contribution to the literature, and finally introduce the structure of the coming chapters.

THE ARGUMENT OF THE BOOK Theory At the theoretical level, the book argues that delegation to authorities that are formally independent from elected policy makers cannot be explained from a standard principal–agent perspective (Bendor et al., 2001; Gilardi and Braun, 2002). In contrast to the principal–agent view, delegation to independent regulators is characterized by a violation of the ‘ally principle’ (the agent should be selected so as to be as similar in preferences to the principal as possible) and of the conclusion that the more the agent’s preferences deviate from the principal’s, the more developed ex post controls should be. Although formal independence, of course, does not imply the absence of control (McCubbins and Schwartz, 1984), independent regulatory agencies hardly fit the standard principal–agent view of delegation. Rather, the chapter develops three main arguments. First, the preferences of policy makers may change over time, weakening the credibility of policy commitments (Kydland and Prescott, 1977). In some cases, this is a problem because the capacity to make credible commitments is an important political asset. This is especially the case for utilities regulation, where the main goal is to create and maintain a wellfunctioning market. One of the conditions is attracting private investment, which is sensitive to the instability of policy decisions. Therefore, delegation

Introduction

5

to independent regulatory authorities may increase the credibility of regulatory commitments, in economic regulation in general but especially in utilities regulation. Second, while solving the credibility problem is about self-binding, insulating regulatory policy from politics may also be a means of tying the hands of future policy makers. In democracies, elected officials are bound to be replaced, sooner or later, by opponents that may change policies at their discretion. This is known as the political uncertainty problem (Moe, 1990). Delegation to independent regulators may be a means of limiting the discretion of future policy makers, and therefore of increasing the duration of policy choices. Third, the institutional context matters because it influences policy stability and, therefore, both the credibility and the political uncertainty problems. More specifically, veto players (Tsebelis, 2002) should be related to delegation to independent regulatory authorities since, by making policy change more difficult, they tend to mitigate the two problems. In this sense, veto players could be seen as functional equivalents of delegation. Patterns of delegation to independent regulatory agencies should thus be expected to vary systematically according to countries’ institutional characteristics. The second major question in the book relates to the timing of the establishment of independent regulators: why the majority of them were established in a relatively short time span in the 1990s. To answer this question, the three factors we have just mentioned can be expected to matter: credibility pressures have probably increased since the mid-1980s, notably as a consequence of privatization and liberalization processes, and political uncertainty and institutions may also have played a role. However, the main hypothesis developed in this context is that the establishment of an independent regulator in a given country and sector is not independent from previous similar decisions in other countries and sectors. In other words, interdependence matters and independent agencies can diffuse internationally. Interdependence and diffusion can take different shapes (Simmons et al., 2006; Braun and Gilardi, 2006c). Policy makers may learn by observing the consequences of policy choices elsewhere, revise their beliefs on the desirability of the policy on this basis and act accordingly. But they can also be influenced by less rational considerations. In particular, the sociological literature on the diffusion of practices and organizations suggests that some forms can progressively become socially valued and legitimate and viewed as appropriate, regardless of their actual consequences. Organizational choice can be a ‘ceremony’ whose goal is to gain legitimacy more than to solve problems, and some organizational forms can even become so widely accepted that their appropriateness is taken for granted, while alternatives disappear from the radar screen of decision makers. Similar arguments have been advanced to account for the spread of

6


independent central banks, and normative pressures from the European Union, the OECD and other institutions suggest that the diffusion of independent regulators may have followed a similar pattern. In sum, the main theoretical argument to account for the spread of independent regulatory agencies is that although country and sector-specific pressures certainly matter, there has been an interdependent diffusion process where the symbolic characteristics of independent agencies have played an important role. Methodology The book compares regulators in 17 countries and seven sectors, and the analysis is quantitative. Two dependent variables are examined: the formal independence of regulators and their date of creation. The dataset is original, and was constructed through primary data collection. Questionnaires were sent to regulators and printed and online annual reports and legislative documents were consulted. To measure formal independence, an independence index is constructed, which varies continuously between 0 and 1. To analyse the data, ordinary least squares (OLS) is not an appropriate estimator because a significant number of observations are clustered on 0. In other words, in some cases regulators are not independent at all because no independent authority exists. To account for this data structure, a Tobit model is used (Sigelman and Zeng, 2000). While this part of the analysis is purely cross-sectional, that of the date of establishment is longitudinal. For each country-sector, the dependent variable takes the value of 0 for every year until an independent regulator is established. The dependent variable is coded 1 for the year of creation, and observations are then dropped. Given this data structure, event-history methods are employed (BoxSteffensmeier and Jones, 2004). Although the analysis is purely quantitative, the concluding chapter discusses strategies to go back to cases on the basis of the statistical results, following the ‘nested analysis’ logic put forward by Lieberman (2005). The idea is that the quantitative analysis permits the identification of ‘interesting’ cases for case studies, and the construction of comparisons of cases that correspond to method-of-difference or method-of-agreement designs (Mill, 1895; Przeworski and Teune, 1970). The conclusion briefly discusses one ‘interesting’ case, the late establishment of the German energy regulator, and suggests other cases for future qualitative studies. Findings The main results of this research can be summarized as follows. Credibility, political uncertainty and political institutions matter for delegation to

Introduction

7

independent regulatory agencies. First, regulators tend to be formally most independent from elected politicians in utilities, and more independent in other economic regulation than in social regulation. This is consistent with the credibility hypothesis, because incentives to make regulatory policies more consistent over time are greatest when utilities are liberalized and lowest in social regulation, while economic regulation is in-between the two. Second, the formal independence of regulators tends to increase with replacement risk, specifically the probability for a government to be replaced by one with different preferences. This is consistent with the political uncertainty hypothesis, which argues that delegation to independent authorities can be a means for policy makers to tie the hands of their successors. Third, regulators tend to be more independent in countries with few veto players, which is consistent with the argument that an institutional context that makes policy change difficult is a functional equivalent of delegation because it mitigates both the problems of credibility and of political uncertainty. However, the analysis of central bank independence shows that central banks tend to be more independent in countries with many veto players, consistent with the view that delegation itself is not credible unless there are obstacles to its withdrawal. The comparison of regulatory agencies and central banks thus leads to puzzling results. These findings are confirmed in the longitudinal analysis of the establishment of independent regulators. Independent regulatory agencies are more likely to be set up when utilities are liberalized or privatized, where the replacement risk is high, and where the institutional context makes policy change easier. In addition, the longitudinal analysis finds that veto players moderate the impact of both liberalization and of replacement risk, and that the latter has a greater effect on the probability that an independent agency is established in countries where replacement risk is usually low, which is consistent with theoretical expectations. The European Union has also played an important role: in the telecoms domain, Member States were much more likely to set up independent regulators when they had to implement a directive requiring the separation of ownership and regulation. The main result of the longitudinal analysis is, however, that independent regulatory agencies have spread in an interdependent diffusion process. The establishment of an independent regulatory agency in a given country and sector is in part influenced from previous decisions in other countries and sectors. Ceteris paribus, the higher the share of country-sectors where independent agencies have already been established, the higher the probability that a new independent regulator will be set up. Following the sociological literature, this evidence is consistent with the idea that the diffusion process is driven by emulation, where the actual consequences of delegation matter less than its symbolic properties. Independent regulatory agencies seem to

8


have become a widely accepted institutional model, regardless of their consequences for regulatory policy making.

CONTRIBUTIONS TO THE LITERATURE This book improves on the current state of research in several ways. The first contribution is to supply a broad mapping of independent regulatory agencies in Europe. While the situation has recently started to change (see for example Jordana et al., 2007), systematic mappings of independent regulators are scarce, since most studies have so far relied on detailed studies of a few cases (see for example Thatcher, 1998, 2002a; Döhler, 2002; Wilks and Bartle, 2002; Gehring, 2004). These works have permitted the generation of fine-grained knowledge of independent regulators in the cases they study, but they inevitably miss the larger picture. In this context, supplying comparative information on delegation to independent regulatory agencies is a useful complement to existing work. This book therefore takes some distance from the trees and looks at the forest; however, we will see in the conclusion that the findings also permit the return to cases with a strong analytical focus. In sum, while the emphasis of this research is clearly on the search for systematic patterns among a large number of cases, the book builds on the qualitative research developed so far and supplies some criteria and arguments to select interesting cases for further qualitative work. In this sense, this book is strongly anchored in the collective research agenda on regulatory agencies in Europe. To achieve the goal of a broad and systematic comparison, several intermediary steps are necessary, which are in themselves significant contributions to the literature. The operationalization of formal independence is the most important point. The defining characteristic of independent regulatory agencies is precisely their independence: the fact that they cannot be directly controlled by elected officials, or to use a catch phrase, that they are at arm’s length from politicians. But not all arms have the same length. Independence is not all-or-nothing; intermediate degrees exist. Indeed, explaining why some agencies are more independent than others is one of the main aims of this book. But how do we know whether one regulator is more or less independent than another? In this book I present an index of formal independence from politicians based on the independence index developed for central banks (in particular Cukierman et al., 1992). It is not an all-purpose index. It focuses exclusively on the formal aspects of independence from elected politicians, and neglects important points such as independence from regulated firms, as well as informal dimensions of independence. Despite these limitations, it is appropriate to investigate the

Introduction

9

political act of delegation. Researchers who are interested in the effects of delegation rather than its origins should, however, be encouraged also to take into account other facets of independence. At any rate, the empirical information on formal independence presented in this book constitute the most extensive dataset on the institutional characteristics of regulators in Europe, and should be a useful starting point for many studies of independent agencies. Another contribution of the book is to extend the range of the comparison not only across countries, but also across sectors. Many studies concentrate on a single sector, and when they do compare sectors, these are usually telecoms and electricity, and in some cases competition or financial services. Regulators in social regulation, that is, domains where regulation deals with issues such as safety and health instead of prices, entry, exit and service of an industry (which is conventionally termed economic regulation) are seldom studied, and virtually never compared with regulators in the economic domain. Yet cross-sectoral comparisons can be very fruitful. Although the research design is quantitative and therefore does not follow the ‘stepwise’ approach put forward by Levi-Faur (2006b), the book does take advantage of cross-sectional variations in delegation patterns, showing that sectoral characteristics are very important, and not only national specificities. The focus on diffusion is another strong point of the book. While in the age of globalization it has become common to recognize that countries have become more interdependent than ever, the consequences of this observation are seldom drawn. Increased interdependence means that the implicit assumption made in many studies that policy choices in one country are not influenced by previous choices in other countries has become very implausible and difficult to sustain. Furthermore, interdependence means that policies can spread internationally, which is an interesting phenomenon that deserves consideration. This book takes these arguments seriously and puts them in the context of the recent and rapidlygrowing diffusion literature in political science (see for example Simmons and Elkins, 2004; Simmons, Dobbin and Garrett, 2006; Swank, 2006; Jordana and Levi-Faur, 2005; Levi-Faur, 2005b; Meseguer, 2004, 2006a; Gilardi, 2005b; Braun and Gilardi, 2006c). Although the empirical application is relatively simple, it prepares the ground for further studies of the diffusion of policies and institutions well beyond the case of independent regulatory agencies. Finally, at the theoretical level the book blends a variety of arguments developed in various contexts, and thus also bridges several bodies of literature. To analyse the formal independence of regulators, it builds on theories of delegation developed in the United States (see for example

10


McCubbins, 1985; McCubbins et al., 1987; Horn, 1995; Epstein and O’Halloran, 1999; Moe, 1997; Bendor et al., 2001; Huber and Shipan, 2004) and applies them in Europe, joining a growing literature that has fostered this cross-fertilization (see for example Pollack, 2002; Huber and Shipan, 2002; Strøm et al., 2003; Franchino, 2004; Braun and Gilardi, 2006a). The book links two related but hitherto largely disconnected literatures: that on regulatory agencies and that on central banks (see for example Goodman, 1991; Bernhard, 1998; Eijffinger and Schaling, 1998; Elgie, 1998; Lohmann, 1998; Keefer and Stasavage, 2002, 2003). In addition to using the latter to develop an index of formal independence, this work also compares explanations of delegation in these two contexts, especially with respect to the institutional context. As the findings show, patterns of delegation to regulators and to central banks tend to diverge, despite the many similarities in these two types of independent authorities. Finally, the book combines rational-choice theories of delegation with sociological arguments about the diffusion of socially legitimate organizational structures, and in the process injects a longitudinal (and with a few exceptions, largely absent) dimension into the study of delegation (Jordana and LeviFaur, 2005; Jordana et al., 2007; Polillo and Guillén, 2005). In sum, by consolidating several approaches in a coherent analysis, this book gives a rich and theoretically relevant view of delegation in the regulatory state that not only supplies important answers, but also opens up interesting avenues for future research.

THE STRUCTURE OF THE BOOK The rest of the book is structured as follows. Chapter 2 introduces in more detail independent regulatory agencies as the institutional foundations of the regulatory state and of regulatory capitalism. Independent regulatory authorities are governmental bodies that exercise public authority but which are neither elected nor directly controlled by elected policy makers. They are the major characteristics of what has been called the rise of the ‘regulatory state’ (Majone, 1997a) or of ‘regulatory capitalism’ (Levi-Faur, 2005b, 2006a). The chapter develops these concepts, discusses their empirical relevance to European countries, and shows how independent regulators are the primary institutional characteristic of the rise of regulation as a prominent instrument of public action. Chapter 3 develops theoretical explanations of delegation patterns, or in other words why some regulators are formally more independent of elected politicians than others. The chapter first exposes the limits of standard principal-agent explanations, and then discusses the problems of credibility

Introduction

11

and political uncertainty and their relevance for delegation to independent agencies in Europe. The chapter also explores the role of political institutions, and shows how the regulation and central banks literatures disagree on this point. Chapter 4 examines these arguments empirically. It discusses the formal independence of regulators and its operationalization through an independence index based on that for central banks; it illustrates variations in formal independence both across countries and across sectors; and it presents the results of the statistical analysis, which confirm the hypotheses presented in the third chapter. In addition, the chapter compares independent regulators with central banks, especially with respect to the role of the institutional context, which appears to matter in both cases, but in different ways. While veto players work as functional equivalents of delegation to independent regulators, they are a precondition for credible delegation to central banks, as argued in the central banks’ literature. Chapter 5 introduces the interdependent dimension of delegation to independent regulatory agencies. While Chapters 3 and 4 concentrate on country-specific factors, this chapter adds a diffusion perspective to the study of delegation to independent agencies by looking at the ways in which delegation in one country and sector is influenced by delegation in other countries and sectors. It introduces the relevant literature on diffusion, convergence and transfer, and then conceptualizes policy diffusion as a process whereby policy choices are interdependent. The chapter then discusses the various forms this interdependence can take, and shows that several diffusion mechanisms may exist, such as learning, competition, symbolic imitation and taken-for-grantedness. The chapter devotes special attention to the last two, which are linked to the idea that some policies or institutional forms may spread, not because of their consequences for the outcomes of policy making but rather, because they have become accepted as appropriate and socially legitimate mechanisms. The diffusion of independent agencies, therefore, may partly be attributed to their ability to achieve a socially valued status that may not be linked to their actual effects on regulation. Chapter 6 examines diffusion hypotheses empirically in a longitudinal analysis of the establishment of independent regulatory authorities. First, it describes how the establishment of independent regulators has followed an explosive trend in which many agencies were set up in a relatively short period of time. Second, the results of the analysis show that, in addition to the factors already studied in Chapters 3 and 4 (which can be thought of as ‘independent problem solving’), diffusion matters. The choices to establish independent regulators have been interdependent. In particular, independent regulatory agencies have been progressively taken for granted as the

12


appropriate institutional design for regulatory policies, and have also been set up to legitimize the actions of policy makers. Processes at the European Union level have also favored the trend, particularly in the telecommunications sector. The concluding chapter summarizes the findings, reiterates their relevance, and outlines avenues for future research. In particular, it discusses how the quantitative analysis can be used to identify ‘interesting’ cases for qualitative investigation, and argues that future research should concentrate on issues such as the informal aspects of independence, the consequences of both formal and informal independence regulatory processes and outcomes, and the unpacking of the diffusion process that has led to the spread of independent regulatory agencies across countries and sectors.

2.


INTRODUCTION There is a consensus in the literature that over the last 20 years regulation has acquired an unprecedented place in European countries. Liberalization and privatization have not led to laissez-faire capitalism: freer markets have been accompanied by more, not fewer, rules (Vogel, 1996). At the same time, regulation has gained ground relative to production and redistribution, which had been the state’s two main functions. This trend has been famously called the ‘rise of the regulatory state’ (Majone, 1997a): regulation has become a primary activity of governments. It is not only the state that regulates private activities, however: private actors are also involved in regulation, and regulation exists within government. To account for this complex pattern of regulatory practices, the concept of ‘regulatory capitalism’ has recently been put forward (Levi-Faur, 2005b, 2006a). Regardless of the scope of the phenomenon (is it limited to the state, or is it broader?), its main institutional manifestation is independent regulatory agencies. In all countries and in a wide range of domains, governments have delegated regulation to specialized authorities that, by design, cannot be directly controlled. Of course, the precise features of these authorities vary greatly across countries and domains; indeed, the analysis of these variations is one of the main objectives of this book. All these authorities, however, are deliberately insulated from political control. While the United States has a long tradition of regulation to independent commissions, this is a major innovation for European countries, although not to the same degree in each. This chapter introduces the concepts and terms that will serve as the background for the rest of the book. We will first define regulation and regulatory policies. These concepts can be conceived in a loose or strict way, and we will opt for a definition that hews to the stricter end. We will then examine a few classic theories of regulation, notably the influential capture theory (and its derivatives) developed by Chicago economists George Stigler (who won the Nobel prize for his work on regulation) and Sam Peltzman, and the political theory of regulation put forward by James 13

14


Wilson. These theories were based on the American experience. In the European context, we will examine Giandomenico Majone’s thesis of the ‘rise of the regulatory state’, which describes the place of regulation in European states, as well as Levi-Faur’s argument that we are witnessing the emergence of a global ‘regulatory capitalism’ whose reach goes well beyond the United States and Europe. Finally, we will introduce independent regulatory agencies, which are the institutional cornerstone of these developments. We will then give an overview of their nature, origins, and consequences. Independent regulatory authorities are a new phenomenon in Europe and have important implications for the process and outputs of regulatory policy-making and on its democratic legitimacy. Their emergence has been linked to various sorts of pressures, which will be analyzed in the rest of the book.

REGULATION AND REGULATORY POLICIES What is Regulation? The literature defines regulation in a variety of ways, partly because it is a concept employed in multiple social science disciplines (Jordana and LeviFaur, 2004; Braithwaite et al., 2007). In the French regulation school (see for example Boyer, 1995; Boyer and Saillard, 1995), whose aim is to supply a radical critique of (and an alternative to) standard neoclassical economics, regulation covers a wide range of institutional forms (including laws, informal arrangements, values and norms) coordinating the decentralized behavior of economic actors. This view roughly corresponds to Baldwin et al.’s (1998: 3–4) definition that regulation encompasses all mechanisms of social control, including unintentional and non-state processes. Going up the scale of precision, a second definition considers regulation as all public efforts to steer the economy, while a third limits its meaning to ‘the promulgation of an authoritative set of rules, accompanied by some mechanism, typically a public agency, for monitoring and promoting compliance with these rules’ (Baldwin et al., 1998: 3).1 The perspective I adopt here is between the second and the third definitions, and excludes the broadest view of regulation. A quite common definition is that of Noll (1985: 10), who claims that regulation includes the public control of aspects of (private) transactions such as the price or the quality of a good or service, the control of certain features of production processes (such as environmental externalities or safety), or the control of entry on the market. Consistent with this view is Spulber’s, who sees regulation as consisting of ‘general rules or specific actions . . . that interfere


15

directly with the market allocation mechanism or indirectly by altering consumer and firm demand and supply decisions’ (Spulber, 1989: 37). This narrow definition of regulation derives from the American experience, but is by no means limited to US studies or scholars. For Lütz and Czada (2000: 15), for example, ‘regulatory policy is a specific form of (mostly) public oversight and control over private market actors’ (my translation). Grande and Eberlein (2000: 640) give a nearly identical definition. A distinction is usually drawn between social and economic regulation. Regulation is conventionally termed ‘economic’ when it deals with the price, entry, exit and service of an industry, and termed ‘social’ when it concerns non-economic issues such as safety and health (Meier, 1985: 3). Similarly, Salamon argues that economic and social regulation differ with respect to the purposes they serve and the methods they use. Economic regulation controls the entry and exit of firms (entry control), prices (price controls), and/or output (production controls). Social regulation deals with the effects of economic activity on the health, welfare, or social well-being of citizens. (original emphasis) (Salamon, 2002: 119)

Another similar definition is the following: Social regulation is aimed at restricting behaviors that directly threaten public health, safety, welfare, or well-being. . . . By contrast, economic regulation is aimed at ensuring competitive markets for goods and services and at avoiding consumer and other harms when such markets are not feasible. This is accomplished through regulating prices and/or other conditions for firms entering specific markets. (May, 2002: 157)

It can be seen that the distinction is somewhat blurred, although economic regulation, unlike social regulation, is clearly concerned with the functioning of competition mechanisms in markets. Of course, economic and social regulation are ideal-types, and most regulatory policies will combine features of both. In addition, some scholars suggest that, within economic regulation, a distinction should be drawn between regulation in competitive market structures and monopolistic industries (Joskow and Noll, 1981: 3). The simple distinction between economic and social regulation, however, is useful in that most regulatory policies are clearly closer to one of the two types, and that, as we will see in further chapters, it is important to understand delegation to independent regulatory agencies. Theories of Regulation Several theories explain the origins, characteristics and consequences of regulatory policies. Scholars have first insisted on the normative rationales

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behind regulation (Peltzman, 1981: 371, 1989: 95–6). According to public interest theory, regulation is justified essentially by the need to correct market failures (Breyer, 1982; Majone, 1996c: Chapter 2; Salamon, 2002: 138–45; Spulber, 1989). Market failures arise when a competitive market does not lead to a Pareto-efficient allocation of resources (Majone, 1996c: 28), and are caused by several factors. First, market power, which is associated with a lack of competition, typically allows firms to charge consumers excessively high prices. An extreme form of market power is the presence of a monopolist. In these cases, regulation is justified by the need to limit the capacity of firms to extract rents from consumers. Second, negative externalities, where the actions of one actor impose costs on another actor in the absence of an explicit economic transaction between the two, arise from the absence of well-defined property rights and the presence of transaction costs (Coase, 1960). A classic example is industrial pollution. Regulation is justified as long as it tries to narrow the gap between the private and social costs of producing negative externalities. Third, the presence of informational asymmetries, where some participants in a transaction (typically producers) know more about its terms than other participants (typically buyers), the market mechanism may not achieve an efficient allocation of resources, and regulation has a role to play in increasing or balancing the amount of information available to actors. Finally, when the goods or services exchanged have some public good properties, the market will undersupply them and regulation is therefore needed. Although public interest theory is essentially normative, it can be reformulated in more explanatory terms, a perspective that is known as ‘normative analysis as a positive theory’ (Joskow and Noll, 1981: 36; Majone, 1996c: Chapter 2). The idea that regulation has the purpose of increasing economic welfare is here used to explain regulatory processes, in which regulators are assumed to act so as to correct market failures. The maximization of allocative efficiency is thus assumed to be the main component in the utility function of regulators. This rather optimistic view of regulation and regulators has been most notably challenged by the influential work of economists like George Stigler and Sam Peltzman. Stigler’s argument is that ‘as a rule, regulation is acquired by the industry and is designed and operated primarily for its benefits’ (Stigler, 1971: 1). This is known as the ‘capture’ thesis: regulators serve the interests of the regulated firms. According to Stigler, there are four policies that regulators can enforce to protect regulated firms: direct subsidy of money, control over entry on the market by new competitors (including trade barriers), policies disfavoring substitutive products, and control over prices. Stigler discusses the incentives of regulators without going into great detail. This point is taken up by Peltzman (1976), who extends (and formalizes) the


17

capture model to include competition among groups. The basic result is that regulators, as vote-maximizers, do not design regulation to favor a single economic interest, namely that of small, well-organized groups (typically producers), but will also take the interests of the losing group into account, which is larger and less organized (usually consumers). The interest that prevails depends largely on the economic context, with producers being favored during depressions and consumers during expansions. However, this theory cannot easily explain an important phenomenon like deregulation. Even though some deregulation cases cannot be explained by the economic theory of regulation, Peltzman (1989) stresses that deregulation itself is not incompatible with the theory, which points out two factors enhancing the likelihood of regulatory reforms. The first is a change in the relative power of different interests, notably in favor of consumers, which can arise, for example, if information on the adverse consequences of regulation is better diffused. The second, and most important, is the ‘decrease in available wealth’ to be redistributed (Peltzman, 1989: 109). The idea is that since regulation presumably creates inefficiencies, as these increase, the scope for redistribution decreases, eventually to the point where everyone is made better off by a deregulation that increases efficiency and wealth. Wilson (1980) has put forward the outline of a political theory of regulation, in opposition to the economic theories that were dominating until the early 1980s. Wilson starts with a criticism of the Stigler/Peltzman model which, however, is more a general attack on the use of rational choice theories to study politics than a focused criticism of the economic theory of regulation. His own theory emphasizes three aspects: the distribution of costs and benefits, the differing motives of bureaucratic actors, and the changing regulatory environment. Wilson suggests that, at least in part, policy determines politics, and distinguishes four types of policies according to the perceived distribution of their costs and benefits. When both costs and benefits are widely distributed, then politics follows a majoritarian pattern, where the material interests of affected parties are not likely to be decisive. When both costs and benefits are narrowly concentrated, interest-group politics is expected, where regulation makes a small group better off and another small group worse off, and both have strong incentives to organize and exercise political influence. When benefits are concentrated but costs are widely distributed, client politics is likely to result, where a small group has incentives to organize and lobby and faces no opposition from other groups. When benefits are widely diffused and costs concentrated, finally, entrepreneurial politics is the outcome, where policy entrepreneurs have to overcome the opposition of well-organized groups. Wilson also argues that regulators are coalitions of diverse participants who have different motives, and different coalitions have different consequences on regulation. In particular, he

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distinguishes careerists, who care about their future inside the regulator, from politicians who have political ambitions, and from professionals, who eventually leave for the private sector and are thus sensitive to its rewards. The third and last aspect of Wilson’s framework is the regulatory environment, which consists of the technology and economy of the regulated industry, as well as of ideas about the appropriate way to carry out regulation. Most of these arguments draw on the American experience. In Europe, regulation has long been less pervasive, and only recently has it assumed an important place in public policy. The rise of regulation as a policy instrument, however, has been seen as more than a simple policy innovation. It has been interpreted as a major shift in the way governments intervene in the economy, with implications for both policies and institutions.

THE RISE OF THE REGULATORY STATE IN EUROPE A thesis that has attracted much interest is that the mode of public governance in European countries has undergone a major qualitative change (Majone, 1994, 1997a; La Spina and Majone, 2000; Müller and Wright, 1994; Lütz and Czada, 2000; Sbragia, 2000; Moran, 2002; Jordana and Levi-Faur, 2004). According to this argument, wide-ranging regulatory reforms (mainly the regulation of privatization and liberalization), the Europeanization of policy making, and NPM-inspired administrative reforms have induced a structural shift from the ‘positive’ to the ‘regulatory’ state. The state has been deeply involved in the production of goods and services for a long time, but this shift means that it no longer is a direct economic actor; rather, it has become a regulator ensuring the smooth functioning of free markets. The argument has strong functionalist connotations: the ‘need’ to cope with technological, economic, and ideological pressures has led to a change in structures and activities. Müller and Wright (1994) identify several factors that have contributed to giving the state a stronger emphasis on regulation rather than stabilization and redistribution, such as ideological and political pressures, internationalization, technological change and public opinion. The rise of the regulatory state has been particularly prominent in the domain of infrastructures, which has been subject to extensive liberalization and privatization throughout Europe (Grande and Eberlein, 2000; Héritier and Schmidt, 2000). In utilities more than in other sectors, deregulation has been accompanied by wide-ranging re-regulation, as some scholars recognized early in the process (for example, Majone, 1990). Telecoms exhibit nearly ideal-typical characteristics of this trend (Grande, 1994; Doyle, 1996; Vogel, 1996). The traditional role of the state in this


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sector involved important politicization of all functions, including tariff control, network modernization, and the design of technical systems. Regulatory reform, during which operators were privatized and market access liberalized, was, however, accompanied by a whole range of new functions for both national states and the European Union, mainly the enforcement of economic efficiency, but also social considerations such as universal service. Regulation has thus progressively become a key state function, notably at the expense of redistribution and macroeconomic stabilization, which were prevalent under the Keynesian state model. At the structural level, the difference between the positive and the regulatory state lies in the instruments used. While the action of the former depends crucially on taxing (or borrowing) and spending, that of the latter is characterized by the production of rules, which is not subject to the same budgetary constraints. In effect, most of the costs of regulation are borne by those who have to comply with it, that is, principally private firms. The distinction between spending and rule-making has led Majone to consider the EU as a nearly ideal-typical case of regulatory state. In effect, the tiny EU budget (in comparison to that of member states) has forced the Commission to rely extensively on regulatory policies when carrying out its activities (Majone, 1996a, 1996b, 1996c; McGowan and Wallace, 1996). The ‘rise of the regulatory state’ thesis has been very influential but by no means uncontroversial. According to Eberlein (1999; 2000), a first problem is that Majone’s view of regulation is misleading, because it assumes that efficiency can be effectively separated from redistribution, or in other words that regulatory policy making can be concentrated on the improvement of market efficiency and has no impact on the redistribution of resources. This criticism is to the point, although, to be fair, Majone does not argue that regulation has no redistributive effects, but only that these are less important in regulation than in other policies, and that redistribution is not the primary goal of regulation. A related criticism is that Majone’s arguments indicate a normative bias in favor of technocratic decision-making, which leads to downplaying the political nature of all regulatory policies. Furthermore, scholars have found no evidence of convergence towards a single regulatory state model (Eberlein, 1999, 2000; Coen, 2005). The literature on regulatory reforms in Europe shows that national and sectoral factors mediate the various pressures for convergence (Thatcher, 2002a). This does not mean that these pressures do not matter. Serot (2002), for instance, shows that the pricing policies of the former monopolies in British and French telecommunications have responded to international factors without being significantly mediated by national institutions. Regulatory

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institutions in Britain and France (most notably the position and status of the incumbent operators, the role of ministers and the presence and powers of regulatory agencies) increasingly diverged throughout the 1980s and the early 1990s, and even when they later began to converge, some marked differences remained. Institutional changes, however, did not lead to changes in pricing policies, which evolved independently from the institutional setting. This suggests that the role of technological changes, which affected the balance of costs of operators, and regulatory reforms in the US and at the WTO and EU level, were more important than that of national institutions in determining pricing policies. Yet in many cases national institutions have helped to shape regulatory systems and prevent convergence despite similar pressures. Vivien Schmidt (2000; 2002), for example, has shown that economic policy adjustment pressures coming from the EU level have been mediated by several countryspecific factors, including economic vulnerability, political institutional capacity, policy legacies and preferences and discourse. Similarly, Susanne Schmidt (2002) has found that the effects of mutual recognition in insurance and road haulage depend on national institutions. Despite pressures for convergence, much scope remains to pursue national regulatory priorities, due to such factors as national working-time regulations (for road haulage) and contract law (for insurance). More generally, these findings illustrate a point made by Steven Vogel (1996) in his study of regulatory reforms under globalization, namely that governments have undertaken reforms that reinforce distinctive national trajectories, which are based on different underlying ideas about the appropriate role of the state in the market and on structural features of the political and economic context.

THE RISE OF REGULATORY CAPITALISM AROUND THE WORLD? The literature on the regulatory state is concentrated on Europe. Some authors, however, have emphasized that the changes highlighted by these studies have a much broader geographical and substantive scope. Regulatory reforms have by no means been confined to Europe, nor to OECD countries; the trend is much more global (Levi-Faur, 2003; Jordana and Levi-Faur, 2005; Gilardi et al., 2006). This is above all an empirical and descriptive observation: the rise of regulation as a mode of governance characterizes countries in all regions of the globe. But there are also analytical implications, especially with respect to the role of the European Union in the promotion of regulatory change. The comparison of regulatory reforms in Europe and Latin America suggests that the European


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Union has not played a crucial role in the process, or, counterfactually, that regulatory reforms would have occurred even in the absence of EU initiatives (Levi-Faur, 2004). This argument is corroborated by comparisons within the EU: in Spain and Portugal, regulatory change in telecoms and electricity preceded developments at the EU level and went beyond its minimal requirements, thus indicating that reforms were influenced by factors beyond the EU (Jordana, Levi-Faur and Puig, 2006). Although these conclusions are certainly not consensual, since other studies have identified the EU as a significant driver of national changes (see for example Pedersen, 2006), they do highlight the fact that regulatory reform is not a specifically European phenomenon, and that similar trends can be observed worldwide. Second, the scope of regulatory reforms is considered to be broader at the substantive level: the regulatory state is possibly the most visible part of the trend, but is only a piece of the larger rise of ‘regulatory capitalism’ (Levi-Faur, 2005b, 2006a; Braithwaite, 2005). While the well-known ‘varieties of capitalism’ approach (Hall and Soskice, 2001) focuses on how capitalist societies are characterized by different production regimes, ‘regulatory capitalism’ refers to how capitalism is shaped by regulatory regimes in which the regulatory state is one actor among others. One of its main characteristics is diversity: regimes vary both across nations and across sectors, are linked to and part of international dynamics, and include a wide variety of actors, both public and private. The state regulates markets, but market actors can be involved in regulation, and not only in selfregulation. Regulation is also implemented within the state, and public services are subjected to the same regulatory standards as private companies. At the extreme, regulatory capitalism can be defined as ‘a patchwork of hundreds and thousands of meso- and microregulatory regimes that govern different aspects of our lives’ (Levi-Faur, 2006a: 520). In sum, the notion of regulatory capitalism transcends that of the regulatory state to highlight the prevalence of regulation in every sphere of the social life, as well as its high degree of complexity.

INDEPENDENT REGULATORY AGENCIES: THE INSTITUTIONAL FOUNDATIONS OF THE REGULATORY STATE Independent regulatory agencies (IRAs) are the main institutional characteristic of the regulatory state, and constitute a major institutional change in regulation. They can be defined as public organizations with regulatory powers that are neither elected by the people, nor directly managed by

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elected officials (Thatcher and Stone Sweet, 2002: 2). Independent regulatory agencies have rapidly become widespread, as shown in Figure 1.1. A few examples from selected countries and sectors are displayed in Table 2.1. Independent regulatory agencies are part of the ‘agencification’ trend that has characterized OECD countries, with the promotion of the view that policies are best executed ‘at arm’s length’ from the government (Verhoest et al., 2004: 101). More importantly, they are at the core of the rise of regulation as a key tool for policy makers, and they constitute a new form of market governance (Majone, 1997a; Coen and Thatcher, 2005; Levi-Faur, 2005b, 2006c). There has recently been much academic interest in this topic. A first wave of studies was characterized by a legalistic approach and/or strong emphasis on description rather than explanation (see for example Cassese and Franchini, 1996; Merusi, 2000; Gentot, 1994; Custos, 2002; Decoopman, 2002), or provided rather general discussions (Morisi, 1997; Giraudi and Righettini, 2001). Works with a more explicit analytical focus can be divided into three groups: the origins of IRAs, their consequences on policy making and their implications for democratic legitimacy. First, scholars have attempted to answer the question: why do politicians delegate regulatory powers to agencies which, by explicit design, they cannot directly control? In fact, this is the main theme of this book, and a question that will be answered in subsequent chapters. One argument is that making regulators independent allows policy makers to increase the credibility of their regulatory commitments, while a second, related idea is that independence is a means to tie the hands of future majorities and prevent them from undoing what the current government has decided (Gilardi, 2002, 2005a). Country-specific contextual factors also play a role, notably in mediating these functional pressures (Thatcher, 2002a). International dynamics also matter: IRAs have diffused internationally, as decisions to create them have been influenced by previous decisions in other countries (Jordana and Levi-Faur, 2005, 2006; Henisz et al., 2005; Gilardi, 2005b). Second, many studies have focused on the consequences of IRAs on policy making processes and outcomes. For example, Thatcher (1994) showed that differences in the extension of competition in telecommunications in the early 1990s in France and the United Kingdom were due to their respective differences in the institutional aspects of regulation. While the United Kingdom set up an independent regulator for telecommunications in 1984, in France the regulator remained the PTT Ministry. Independent regulatory authorities were also found to have significant effects on the regulation of utilities in general. In Britain, independent agencies have had a profound impact on the nature of regulation, as they have used their powers


Table 2.1

23

Regulatory agencies in selected countries and domains in 2007 Telecoms

Energy

Food safety

Austria

Rundfunk & Telekom RegulierungsGmbH

E-Control GmbH

Österreichische Agentur für Gesundheit und Ernährungssicheriheit

Belgium

Institut belge des services postaux et des télécommunications

Commission de régulation de l’électricité et du gas

Agence fédérale pour la sécurité de la chaîne alimentaire

Britain

Office of communications

Office of gas and electricity markets

Food Standards Agency

Denmark

National IT and Telecom Agency

Danish Energy Regulatory Authority

Danish Veterinary and Food Agency

France

Autorité de régulation des communications électroniques et des postes

Commission de régulation de l’énergie

Agence française ed sécurité sanitaire des aliments

Germany

Bundesnetzagentur

Bundesnetzagentur

Bundesinstitut für Risikobewertung

Italy

Autorità per le garanzie nelle comunicazioni

Autorità per l’energia elettrica e il gas

Comitato nazionale per la sicurezza alimentare

Netherlands Telecom and Post Authority

Office of Energy Food and Regulation (part of the Consumer Product Cometition Authority) Safety Authority

Portugal

Autoridade Nacional de Comunicações

Entidade Reguladora dos Serviços Energéticos

Spain

Comisión del Comisión Nacional Mercado de las de Energía Telecomunicaciones

Agencia Española de Seguridad Alimentaria y Nutrición

Sweden

Swedish National Post and Telecom Agency

National Food Administration

Switzerland

Commission fédérale de la communication

Swedish Energy Agency

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to take action in many fields that fell outside and beyond their intended scope of action, and developed a ‘conceptual framework’ that stressed the promotion of competition and the protection of consumers (Thatcher, 1998). Other studies have addressed the effects of independent regulators on the process of regulation rather than its outcomes. In this context, a common finding is that the establishment of independent regulators leads to unexpected changes in policy making. In Germany, the establishment of an independent regulator for telecommunications has been conducive to a shift in regulatory policy making from hierarchical, interest-based bargaining to discursive deliberation (Gehring, 2004). In Britain, competition authorities were originally not expected to play a very active role, but over time have become important players (Wilks and Bartle, 2000). This trend seems to be widespread: comparative analyses of European countries have shown that the relationship between regulators and politicians initially tended to conform to national patterns of interactions, in which governments are more powerful, independent regulators rapidly gain autonomy, often in ways that are not foreseen in formal statutes (Thatcher, 2002a). Empirically, this is shown by the fact that elected politicians do not appoint agency officials on a partisan basis, do not force the departures of officials who disagree with their decisions, and do not attempt to undermine agencies’ activities by cutting their budget or staff (Thatcher, 2002b; Thatcher, 2005). Thus, it seems that independent authorities have become the ‘third force’ in regulation, alongside governments and regulatees (Thatcher, 2005). Another study, however, has examined the ‘real’ or ‘de facto’ independence of regulators from politicians in 15 European countries, and has found considerable variations (Maggetti, 2007). Interestingly, formal independence is neither a necessary nor a sufficient condition for de facto independence. In other words, regulators can be autonomous from political principals even though they are not formally independent, and formal independence does not guarantee real independence. Political institutions characterized by many veto players and the age of the regulator seem to have a weightier role. The relationship between regulators and regulated firms has also evolved in interesting directions. A comparison of Germany and Britain has shown that on both sides there are incentives to overcome initial hostility to achieve stable patterns of cooperation (Coen, 2005). Regulators and regulatees need each other: agencies tend to be understaffed and have to rely on regulated companies for information and expertise, while companies compete with each other not only for customers, but also for insider access to the regulatory process. Both in Germany and Britain the relationship between business and regulators has followed this path but at different


25

speeds, since several contextual factors influence the potential for cooperation. If there are several regulators with concurrent powers in a given marketplace, companies can go ‘venue shopping’, while regulators are in a stronger position if they have the monopoly of regulation. Discretion is also helpful for the development of cooperation, in contrast to more legalistic approaches. Finally, the age of the regulators matters: agencies and companies need to learn how to interact in an effective way, and this takes time. As a result, a cooperative relationship between regulators and regulatees has emerged more fully in Britain than in Germany. The third issue that the literature has addressed is the accountability and democratic legitimacy of independent regulators. The debate is in fact much broader, and is relevant not only for IRAs, but for all kinds of institutions that do not conform to the representative model, notably independent central banks and the European Union, and network governance arrangements. Central banks have long been criticized for their lack of democratic accountability (Elgie, 1998; Freeman, 2002: 902–6; Stiglitz, 1998): they take decisions that have highly political consequences (although the decisions themselves – for example, setting interest rates – may be technical), but citizens have no means to control them, since central bankers are not elected, nor directly controlled by elected representatives. The European Union has similar problems, which are usually referred to as ‘democratic deficit’ (Follesdal and Hix, 2006). The ‘standard version’ of this problem is that European integration has increased executive power at the expense of national parliamentary control, that the European Parliament is too weak, that there are no real European elections, that the EU is too distant from the common experience of voters, and that, as a result, European policies deviate from voters’ preferences. The ‘standard defence’ is that the European Union is a regulatory state that produces efficiency-increasing policies that are Pareto-efficient (that is, they leave no one worse off) rather than redistributive or allocative policies, and therefore technocracy is not only appropriate but even better than majoritarian decision making (Majone, 1998, 1999, 2000). However, the main counter-argument is that the nature of policies (are they really Pareto-efficient?), and indeed the definition of policy agendas (should Pareto-efficient policies be pursued – assuming they exist – rather than redistributive ones?), ought to be debated in a contest for political leadership at the European level (Follesdal and Hix, 2006). The consequences of delegation to independent authorities on the democratic legitimacy of regulatory policy making can be understood in these terms. On the one hand, independent regulators are more or less concerned with technical issues for which technocracy can be an appropriate solution; on the other hand, no decision is purely technical, all policies have at least some Pareto-inefficient components, and these issues

26


should not be insulated from political debate and democratic control. Accordingly, authors have pondered how insulation from democratic control can be reconciled with democratic accountability (Majone, 1999; Scott, 2000; Lodge, 2004; Sosay, 2006; May, 2007). Accountability is ‘the duty to give account for one’s actions to some other person or body’ (Scott, 2000: 40); democratic accountability is therefore the duty to give account of one’s actions to voters or to their elected representatives. Several solutions have been proposed, for example an ‘extended accountability model’ in which interdependencies among the actors involved in regulation create checks and balances that keep regulators under control, and in which several overlapping accountability mechanisms exist while no single mechanism is crucial (Scott, 2000). While there is consensus in the literature neither on the diagnosis (how undemocratic are independent regulators?) nor on the remedy (what should be done about it?), this is certainly one of the most important consequences of the proliferation of IRAs in contemporary democracies.

CONCLUSION In this chapter we have discussed how regulation has become a central activity of European governments, and how independent regulatory agencies have become central actors in regulatory policy making. As we have seen, the establishment of independent regulators raises a multitude of questions. What are they exactly? To what extent do they constitute a break with the past? What are their consequences on decision making processes and regulatory outcomes? Are they compatible with democratic principles? While all these points are highly salient, in the rest of the book we will focus on a specific question: why have governments delegated regulatory competencies to authorities they cannot directly control? The next chapter examines this question theoretically and develops three arguments. First, in some contexts successful regulation requires policy makers to be able to credibly commit to a given course of action. Delegation to an independent authority can be a means of making regulation more consistent over time, more credible, and therefore, under some circumstances, able to achieve its goals. Second, policy choices are inherently unstable in democratic countries, since policy makers remain in power only for a limited amount of time, and their successors have the possibility of passing new decisions. Delegation to independent agencies can be a means of countering this problem: if regulation is insulated from political control, both current and future policy makers will be unable to influence it directly. Third, political institutions matter. Policy change is more difficult if many actors have to give their


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consent. In this case, policies will be more stable over time, and thus more credible in the eyes of private actors and less vulnerable to alternation in government. These hypotheses are developed in detail in the next chapter, and will be at the basis of the empirical analysis presented in Chapter 4.

NOTE 1. Three very similar definitions are given also by Baldwin and Cave (1999: 2).

3.

Delegation to independent regulatory agencies: credibility, political uncertainty, and veto players

INTRODUCTION Why do politicians sometimes delegate powers to authorities that they cannot directly control? This chapter argues that part of the explanation rests on the fact that choices must often be made over time (Loewenstein and Elser, 1992). In many cases, both for individual and collective actors, a decision is taken at time t and must then be implemented or confirmed at time t1. At this moment, the temptation to change the previous decision may arise. While often this time inconsistency is innocuous, sometimes it can have serious consequences. This is why people and groups alike may decide to bind themselves, like Ulysses facing the Sirens (Elster, 1979, 1992; Sally, 2000). At the same time, self-binding also entails binding others (Elster, 2000). The problems of choice over time, then, can imply the imposition of constraints both on oneself and on others. In a political context, choice over time gives rise to two problems of credible commitments and political uncertainty. In the former, time-inconsistent preferences lead to a lack of credible commitment capacity, which may prevent policy makers from achieving their goals. In the latter, the democratic process, which implies that different governments hold power in turn, means that decisions can be reversed. This chapter demonstrates the relevance of these two points for delegation to independent authorities. The next section shows that standard principal-agent theory cannot account for delegation to independent agencies. Principal-agent models argue that principals tend to choose agents that are as similar to them as possible in terms of preferences, and tend to control the behavior of the agent in sophisticated ways. By contrast, delegation to IRAs is characterized by the fact that these do not necessarily share the views of their political principals, and second that they are deliberately made independent from political influence. We will then introduce the main argument to account for this peculiar form of delegation: the idea that 28

Delegation to independent regulatory agencies

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delegation to independent authorities is motivated by the need to increase the credibility of policy commitments. This point is developed in three steps: we will first discuss the time-inconsistency problem, then its consequences, and finally how delegation to independent agencies can be a solution. The following section introduces a second argument for explaining that regulatory agencies are deliberately insulated from political power, namely that delegation can be a means for current policy makers to tie the hands of future policy makers so as to prevent them from undoing their choices. Finally, we will discuss how political institutions shape delegation to independent authorities, and particularly how the extent to which the political context prevents policy change tends to mitigate both the credibility and the political uncertainty problems.

THE LIMITS OF PRINCIPAL-AGENT EXPLANATIONS The standard view of delegation problems is the principal-agent approach (see for example Moe, 1984; Bendor et al., 2001; Gilardi and Braun, 2002; Braun and Gilardi, 2006b). A principal wishes a given task to be executed but lacks the expertise or time to perform it and therefore delegates it to an agent, which gets the job done in exchange for some form of remuneration. This is a very general social phenomenon, which occurs every time we consult a doctor or ask a mechanic to repair our car. In the political domain, politicians routinely delegate tasks to the bureaucracy, such as writing reports and drafts of legislation, and enforcing them when they have become law. In these cases, the principal must solve two problems. First, the principal must select an agent with the appropriate expertise and preferences. This is the ‘adverse selection’ problem. Second, once an agent has been selected the principal must make sure that it fulfils the principal’s interest and not its own. If the agent pursues its own goals rather than those of the principal, then there is ‘moral hazard’. In the politician-bureaucracy relationship, the term ‘bureaucratic drift’ (McCubbins et al., 1987) describes the difference between the principal’s ideal point and the bureaucrat’s implementation. To cope with these problems, principals are expected to choose agents whose ideal point is as close to their own as possible (the ‘ally-principle’), to set up appropriate controls to monitor the behavior of the agent, and to intervene in case the agent does not act in conformity with the principal’s mandate. Controls need not be direct (‘police patrols’): they can also consist of ‘fire alarms’, where interested third parties monitor the agent and inform the principal in case it misbehaves (McCubbins and Schwartz, 1984).

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The specificity of delegation to independent regulatory agencies is that these principles are systematically violated. Instead of delegating powers to ‘allies’, principals often choose agents that have other preferences; and instead of setting up extensive oversight mechanisms and means to influence the activities of the agent, they make it independent from political control. What is more, all this is done on purpose: regulators are deliberately made independent from politics. This means that the standard explanation for delegation is not appropriate here. If expertise were the primary motivation, then a specialized agent would be created, but it would certainly not be put outside political control. Clearly, other factors explain the choice to delegate to independent authorities. This chapter will propose three arguments. The first is that independence is a means for policy makers to increase the credibility of their regulatory commitments, while the second considers that independence permits to cope with political uncertainty. Third, the institutional context matters; veto players increase policy stability and thus constitute functional equivalents of delegation to mitigate the credibility and political uncertainty problems.

CREDIBLE COMMITMENTS AND DELEGATION Jadis ayant souvent pensé avec terreur qu’un jour il cesserait d’être épris d’Odette, [Swann] s’était promis d’être vigilant et, dès qu’il sentirait que son amour commencerait à le quitter, de s’accrocher à lui, de le retenir. Mais voici qu’à l’affaiblissement de son amour correspondait simultanément un affaiblissement du désir de rester amoureux. Car on ne peut pas changer, c’està-dire devenir une autre personne, tout en continuant à obéir aux sentiments de celle qu’on n’est plus. (Marcel Proust, Du côté de chez Swann, Paris: Folio, 1987, p. 371) Martha had decided that tonight [Franz] would kiss her for the first time. Characteristically, she chose one of her monthly days lest she succumb too soon, and in the wrong spot, to a yearning that otherwise she could no longer resist. (Vladimir Nabokov, King, Queen, Knave, New York: McGraw-Hill, 1968, p. 86)

The credible commitment problem derives from the fact that decisions may fail to be consistent over time. An actor may prefer an option at time t, but then change its mind at time t 1. This is a very common situation indeed. Proust’s quotation shows that, at time t, Swann is in love with Odette, and wants his love to last forever. Nevertheless, at time t1 Swann’s feelings have changed so strongly that not only is he no longer in love, but is also happy with the new situation. Time inconsistency has three main causes. First, new, unforeseen contingencies may lead an actor to revise its original choice. Second, the strategic


31

anticipation of other actors may be a necessary condition for timeinconsistent preferences. Third, time inconsistency may arise simply because of the shape of the discount function of the actor. In either situation, timeinconsistent preferences result and lead to the incapacity to credibly commit to a given course of action. The consequence is that rational actors will try to design commitment devices that will force them to stick to the original decision even when preferences change. Nabokov’s quotation shows it very clearly. At time t, Martha wants to start her romance with Franz at time t1, but fears that, at that moment, passion will lead her too far. Martha is aware of the risk that her preferences will be time-inconsistent, and thus finds a way to bind herself, by choosing, for the start of the relationship, a moment when giving free leeway to passion has, in her view, higher costs than usual. Nabokov’s quotation thus nicely illustrates a general conclusion of the literature: that, when time-inconsistent preferences lead to undesired outcomes, precommitment devices are likely to be established. In the rest of this section we will discuss the time inconsistency problem, then its consequences, and finally its solutions, especially in terms of delegation to independent authorities. The Time-inconsistency Problem Time inconsistency occurs ‘when the best policy currently planned for some future period is no longer the best when that period arrives’ (Cukierman, 1992: 15), or, in a similar definition, ‘when a policy announced for some future period is no longer optimal when it is time to implement the policy’ (Bernhard et al., 2002: 705). This characterization of time inconsistency assumes that a change in preferences follows from a change in some of the factors upon which the original decision was based. In the context of public policy, these factors can be related either to the underlying economic context or to the reaction of the target of the policy (Kydland and Prescott, 1977). A standard example of the former, more straightforward case is found in monetary policy-making (Barro and Gordon, 1983; Franzese, 1999: 683–4; Bernhard et al., 2002: 705–7). At time t, a policy maker plans to conduct a restrictive monetary policy but, at time t 1, faces electoral incentives, or new macroeconomic conditions, leading it to create inflation to boost employment and growth through a decrease in real wages. In this case, the preferences of the policy maker are time-inconsistent because they change between time t and time t 1 as a result of the new context, namely the approaching of elections (Alesina and Tabellini, 1988: 543–5) or new macroeconomic conditions (Persson and Svensson, 1989: 325). The second reason why preferences may be time-inconsistent is more subtle, and derives from the conceptualization of public policy as a game

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between the government and a target group. As Kydland and Prescott (1977) state in the abstract of their classic article, economic policy ‘is not a game against nature but, rather, a game against rational economic agents’. The game can take the following form (Bendor et al., 2001: 260). In the first stage, the government makes a promise, for example not to subsidize a company of national interest even if that company is facing serious problems. In the second stage, the company chooses between a more or less risky business strategy. In the third stage, the government decides whether to implement the announced course of action. At this stage, time inconsistency may arise as a result of the behavior of the company. If it anticipates the inability of the government to keep its promise, then the company may choose the risky strategy, be in a bad financial situation, and announce that it will have to cut jobs if no public aid is accorded. Now the optimal policy for the government may be to accord a subsidy to save jobs, even though this plan was not optimal at the beginning of the game. It can be seen that in this case the new contingency that leads to a change in the preferences of the government is not due to an exogenous shock, but to the fact that the company rationally anticipates the inability of the government to stick to the announced plan. This argument can be illustrated through a formalization of this game, which I will call the subsidy game (Figure 3.1). The actors are a government (G) and a company (C). Nature moves first, and determines whether G is ‘strong’ (with probability p) or ‘weak’ (with probability 1p). Only if G is strong will it be able to stick to a decision once it has taken it. G moves next. The situation is the following. C has been in deep financial trouble and needs a subsidy from G. G agrees to help C, and chooses whether or not to make a commitment to give further subsidies in the future. In simple words, the government can say ‘ok, we give you the money, but it’s the last time’, or it can just give the money and say nothing about its future actions. If G chooses not to commit itself, the game ends (Outcome I). G gives the money and C is more or less free to do whatever it wants. If G chooses to commit itself, however, C moves and sets its business plan, in one of two ways. It can choose an ambitious strategy where it does not reduce costs with the risk of incurring financial problems in the future, or a more realistic strategy leading to financial stability. C, however, does not know if G is time-consistent or -inconsistent, that is, if it will keep its commitment not to give further subsidies. C can only attach a probability to these events. Concretely, C does not know for sure if it is in the upper or lower path of the game, as shown by the dotted line (technically, the information set). If C chooses the realistic strategy, the game ends, leading to Outcome II. On the one hand, the safer strategy enables C to survive without further aid. On the other hand, if C chooses the ambitious strategy it incurs further


Outcome IV (3, 1) No subsidy G Subsidy

Ambitious

Outcome III (2, 3)

C Realistic Outcome II (4, 2)

Commitment G No commitment Outcome I (1, 4) G strong (p)

Outcome IV (2, 1) No subsidy

N G G weak (1–p)

Ambitious

Subsidy Outcome III (3, 3)

C Realistic Commitment

Outcome II (4, 2)

G No commitment Outcome I (1, 4)

Figure 3.1

The subsidy game

33

34


financial problems, threatens to cut jobs, and asks for more money. In the last move of the game, then, G must choose whether to break its previous commitment and give C another subsidy. It may be tempted to do so, for example to prevent heavy job losses. In this case, the outcome is III. Alternatively, it can stick to its commitment and not give the subsidy (Outcome IV). The preferences are as follows. For C, IIIIIIIV. The best outcome is when G makes no commitment, so that C’s room for maneuver is maximized. The second best outcome is choosing the more ambitious strategy and then being backed by G through a further subsidy. IV is the worst outcome, as G does not take care of the problems that have followed the risky business plan and C may go bankrupt. Outcome II is preferable because C can survive, even though it cannot afford an ambitious business strategy. For G, the best outcome is II: following its commitment not to give further subsidies, C chooses a realistic business plan that enables it to survive without help. The worst outcome is I, as it is politically very difficult for G to justify an initial subsidy without promising that it is the last one. Whether G prefers III or IV, however, depends on its being time-consistent or -inconsistent. If G is weak, at the last move G will prefer saving C and the jobs that go with it, even though it had promised not to do so (III IV). If G is strong, it is able to keep its commitment. Its preferences do not change with respect to its first move, and chooses IV over III. To sum up, then, if G is time-consistent, its preferences are IIIVIIII; if it is timeinconsistent, the ordering is II III IV I. It is useful now to analyse the two sub-games and find their equilibria separately. In the sub-game where G is time-consistent, C anticipates that, in the last move, G will not give an additional subsidy, and thus chooses a realistic business plan. In the first move, G is better off if it chooses to make the commitment. The equilibrium is thus II: G makes a commitment not to give further subsidies, and C chooses a realistic business strategy. In the sub-game where G is time-inconsistent, in contrast, C anticipates G’s weakness in the last move, which leads G to give the additional subsidy. A thus chooses an ambitious business plan. Since G, in the first move, still prefers III over I, it makes the commitment. The equilibrium here is then III: G makes a commitment not to give another subsidy, but C anticipates that G will be tempted to renege in the last move, chooses the risky strategy, and at the end G pays for the damage. The equilibria in the two subgames are thus very different. The important point for present purposes is that the equilibrium that is actually reached hinges on p, namely on C’s beliefs about the capacity of G to keep the commitment. Only if A thinks that G is time-inconsistent will


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it choose the risky strategy, thus placing G in a dilemma in the last move. If, however, C believes that G will keep its commitment, the situation where G may be subject to a preference reversal does not even arise, because C chooses a realistic business plan and the game ends. This means that C’s anticipation of G’s weakness is a necessary (though not sufficient) condition for the time inconsistency problem to emerge. If C believes that G has time-consistent preferences, G will not have to make the last move of the game. Even though G could be tempted to renege on its commitment, it will not because that stage of the game has not been reached. There is in fact a cut-off point of p which determines whether A plays A or R. The cut-off depends on the payoffs, and to find it these should be expressed on a cardinal scale. In this model the payoffs are ordinal (that is, only the order of the preferences is known, and not their relative importance), and a meaningful cut-off point thus cannot be determined. Preference reversals, however, are not necessarily linked to the rational expectations of relevant actors, nor to an exogenous change in the decision making context. Temporary changes in preferences can also follow from the shape of the decision-makers’ discount function. When studying the problem of intertemporal choice, economists consider that actors give more weight to immediate rather than future utility, an assumption known as ‘time discounting’ or ‘time preference’ (Frederick et al., 2002). The strongest justification of this assumption is that there is no enduring self over time, and that our future selves can almost be given the status of other people (Frederick et al., 2002: 359). Marcel Proust’s description of Swann’s feelings for Odette, which opened this section, shows the plausibility of this view. The discount function that is most widely used by economists derives from the discounted-utility model originally developed by Paul Samuelson (1937) (Frederick et al., 2002: 355–60; Loewenstein 1992: 19–22). The model describes an actor’s intertemporal utility function in the following way: Ut (ct,…,cT )

Tt

D(k)u(ctk)

(3.1)

k0

D(k) is interpreted as the actor’s discount function, that is, ‘the relative weight she attaches, in period t, to her well-being in time tk’ (Frederick et al., 2002: 355). In most cases an exponential discount function is used: D(k) k

(3.2)

where the discount factor is constant (t for all t), that is, does not depend on the distance from the horizon T. This assumption means that

36


moving two outcomes by a common amount of time does not change preferences between the outcomes (Frederick et al., 2002: 358). If a person prefers A at time tn to B at time tn k for some n, then the person must always prefer A at time tn to B at time tn k (that is, for all n). To put it plainly, if I prefer going to the movies on Wednesday to going to the opera on Thursday, then, if I have an exponential discount function, I must also prefer going to the movies on Friday rather than going to the opera on Saturday. This assumption of constant discounting implies that time preferences can be summarized by a single discount factor; if the assumption does not hold, then an entire discount function would be required (Frederick et al., 2002: 358). A further implication is that intertemporal preferences are time-consistent, that is, Outcome A is always preferred to Outcome B. More precisely, preferences are time-consistent if Outcome A is preferred over Outcome B at time t if and only if A is preferred over B at time t1 (Frederick et al., 2002: 358). It can be seen that this condition is violated in the examples of time-inconsistent preferences given above. A government may prefer not to give subsidies to a company at time t even though at time t1, when the company has deep financial problems, it prefers to do so to save jobs. Figure 3.2 represents this idea graphically (see Ainslie and Haslam 1992: 64–5). The left panel shows exponential discount functions (the right panel shows hyperbolic discount functions, which will be introduced shortly). It shows two alternative amounts of money available at different times. The amount of €10 is due at time t0, while €20 are due two periods later. More concretely, at time t10 these curves show the utility of getting €10 in 10 days or €20 in 12 days, given an exponential discount function. It can be seen that, when the discount function is exponential (left panel), €20 are always preferred to €10. In this case preferences are therefore time-consistent: at no point in time are €10 preferred to €20. This is a convenient property of the exponential discount function, as irrational preference reversals are by definition ruled out. However, this is not consistent with a large amount of experimental evidence (Ainslie and Haslam 1992: 67–71; Frederick et al., 2002: 360–1). A typical result is that people prefer €200 in two years over €100 in one year, but prefer €100 now over €200 in one year. This indicates that, contrary to the assumptions of the exponential discounting model, ‘preferences between two delayed rewards can reverse in favor of the more proximate reward as the time to both rewards diminishes’ (Frederick et al., 2002: 361), which is a not completely intuitive result as it implies that ‘poorer goals that are closer can loom larger than better, distant goals’ (Ainslie and Haslam, 1992: 72). This is not the only ‘anomaly’ of choice over time (see Loewenstein and Prelec, 1992; Frederick et al., 2002: 360–5; Tversky and Tahler, 1990), but is the most important for the present purposes.

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Delegation to independent regulatory agencies Hyperbolic discount function

10 0

5

Utility

15

20

Exponential discount function

–10

–8

–6

–4

–2

0

2 –10

–8

–6

–4

–2

0

2

t Utility of EUR10

Figure 3.2

Utility of EUR20

Discount functions and temporary preference reversals

Preference reversals, or temporary preferences, can occur if actors do not discount the future exponentially (that is, if the discount function is different from Equation 3.2). In fact, Strotz (1955) pointed out that time-inconsistent preferences are the rule rather than the exception, because they follow from any discount function other than the exponential. Experimental evidence has suggested that actual discount functions have a shape that is very similar to that of hyperbolas (Ainslie and Haslam, 1992: 67–71). A hyperbolic discount function can be written as D(k) (1 k)

(3.3)

To illustrate the consequences of a change in the shape of the discount function from exponential to hyperbolic on the possibility of preference reversals, the right panel of Figure 3.2 uses the same rewards and time frame as the left panel, but employs Equation 3.3 as discount function (with 2 and 1) rather than Equation 3.2. It can be seen that €20 are almost always (that is, at most t) preferred to €10. As the period when €10 are due (t0) is very close, however, €10 are preferred to €20, although waiting for two more periods would lead to twice the reward. There is thus a temporary preference reversal, because for a short period of time a lesser reward is preferred over a

38


greater one. This myopia arises from the proximity of the reward. Poorer outcomes can be preferred to better ones when they become more proximate. The implications for policy making are straightforward. Decision makers may value a policy more than another over the long term, but preference reversals may suddenly occur because of hyperbolic discounting. The consequence is that, when politicians make a policy commitment, that commitment may not be credible. Time-inconsistent preferences, therefore, may arise because of changes in the context, because of the anticipation of rational actors, and because of hyperbolic time discounting. Knowing which cause of timeinconsistency is more important is an interesting question but one that is not central here. Rather, the point is that there are sound theoretical reasons to expect time-inconsistent behavior from policy makers (like from other people). This would be a quite innocuous conclusion if time inconsistency had no consequences for policy making. The next section shows that this is unfortunately not true: time-inconsistent behavior can affect policy making in negative ways. The Consequences of Time-inconsistency: Credibility as a Political Asset An important political consequence of time-inconsistent behavior is that policy commitments will tend to lack credibility. A commitment can be defined as ‘a promise, pledge, vow, covenant, guarantee, or bond to perform in a specific fashion’ (Shepsle, 1991: 247). The problem is that public policies often need to be credible in order to be successful. When credibility is lacking, the expected benefits may fail to materialize. The literature has shown that this principle applies to a variety of fields. First, the negative consequences of time-inconsistent preferences, and of a lack of credibility, have been shown to be at the core of monetary policy. Policy makers may announce a conservative monetary policy at time t, but may have incentives to break this commitment at time t1. Whether this occurs because of a change in the macroeconomic context, electoral incentives, or hyperbolic discounting does not matter. The point is that their attempt to create surprise inflation so as to boost output is doomed to failure if economic actors rationally anticipate this behavior (Barro and Gordon, 1983; Bernhard et al., 2002: 705). If economic actors do not see the commitment to restrictive monetary policy as credible, they will integrate inflation into their behavior, and set prices and wages accordingly. As a result, the outcome of the government’s attempt to boost the economy through surprise inflation is in fact simply higher inflation. Second, credible commitment capacity is a key political asset for the pursuit of economic growth (North and Weingast, 1989; Weingast, 1993,


39

1995; North, 1993; Stasavage, 2002a). The basic problem for governments, in this view, is to commit credibly to respecting private property rights. Unless property rights are secure, private investment will incur significant risks and will thus be undersupplied, with adverse consequences for the economy. It is in the long-term interest of governments to respect these rights but, as we have seen, many reasons can lead to time-inconsistent preferences. Historically, one such reason was the necessity to increase public revenue to finance wars, but other factors can be easily identified. North and Weingast (1989) illustrate the importance of credible commitment capacity in seventeenth-century England. Before the institutional changes introduced by the Glorious Revolution, the Crown had considerable discretion, which it regularly used to expropriate private wealth (North and Weingast, 1989: 316–19). Loans were one example. The Stuarts secured their loans under threat, and often did not repay them. This was a behavior dictated by a heavy discounting of future, as the Crown clearly had an interest in being able to raise funds over the long run. A second form of violation of property rights was the sale of monopoly rights, which expropriated the value of existing investments, thus discouraging further investments, as well as penalizing other economic actors, including consumers. The institutional changes introduced by the Glorious Revolution, notably the attribution of more power to the Parliament and a significant limitation of the discretion of the Crown, led to considerable improvements. The size of government debt was multiplied by 17, signaling a dramatic increase in the willingness of the private sector to lend money to the state (North and Weingast, 1989: 328–31). The mechanisms at the basis of the credible commitment problem for private investment can be clarified through a simple game that takes up some of the ideas of the subsidy game developed earlier. Figure 3.3 presents the basic model. The players are a government (G) that wants to attract investment and a company (C) that wishes to invest in G’s country. C moves first, and chooses whether to invest or not. In the latter case, the game ends with Outcome I. If C invests, G moves and can either expropriate C’s wealth (for example through a change in price regulation), or respect C’s property rights. The first choice leads to Outcome II, the second to Outcome III. The preference orderings are the following. The best outcome for C is investing and having property rights respected. Further, C prefers not investing at all rather than investing and then being expropriated. Thus, III III for C. G, however, always prefers attracting C’s investment, but would also rather have the opportunity to expropriate C’s wealth. Thus, II III for G. The equilibrium is straightforward. F anticipates G’s expropriation and thus does not invest (Outcome I). Note that this is a suboptimal equilibrium, since both players would be better off if they could reach Outcome III.

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Outcome III (2, 3) Not expropriate G Expropriate Invest

Outcome II (3, 1)

C Not invest Outcome I (1, 2) Figure 3.3

The investment game (1)

G has thus incentives, prior to C’s move, to promise not to expropriate C in case it invests. If the promise is credible, it changes G’s payoff by increasing the costs of expropriation, for example through a more complicated decision making process, or through a law explicitly forbidding such behavior. The game that results is shown in Figure 3.4. G now moves first and chooses whether to make a credible promise that it will not expropriate C, or not to make such a promise. If G promises not to expropriate, the game continues as in the previous model. Otherwise, G’s payoffs are changed: now IIII II. G now prefers not to expropriate in the last move. C, whose preferences have not changed, anticipates this and chooses to invest, and the equilibrium is thus III, which is now both players’ preferred outcome. What the game shows is that a credible promise by G can make C willing to invest. The crucial point, however, is that C must believe G’s promise. The assumption that the promise is credible is relaxed in the next version of the game, presented in Figure 3.5. In this game C is uncertain about G’s capacity to keep its promise. In other words, G may have time-inconsistent preferences, and prefer not to expropriate in the first move when it has to make the promise, but then prefer to expropriate when the actual decision about expropriation must be taken. We have seen earlier that such preference reversals are in fact very common.

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Outcome III (3, 3) Not expropriate

G Expropriate Invest

Outcome II (2, 1)

C Not invest Outcome I (1, 2)

Commitment

Outcome III (2, 3)

G Not expropriate

G

No commitment

Expropriate Invest

Outcome II (3, 1)


Figure 3.4


42


Outcome III (3, 3) Not expropriate G Expropriate Invest

Outcome II (2, 1)


G strong (p)

Outcome III (2, 3)

N

Not expropriate G

G weak (1–p) Commitment

Expropriate Invest

Outcome II (3, 1)

G C No commitment

Not invest Outcome I (1, 2) ...

Figure 3.5


This uncertainty is modeled as follows. In the first move, G plays promises not to expropriate.1 Nature moves next, and determines whether G will be able to keep its promise (with probability p) or not (with probability 1p). An interpretation for this move is that Nature sets the shape of G’s discount function. As discussed earlier, an exponential discount function implies time-consistent preferences, while a hyperbolic discount function allows for


43

preference reversals. G’s discount function is therefore exponential with probability p, and hyperbolic with probability 1p. C moves next to choose whether to invest or not, but does not know for sure if it faces a timeconsistent or time-inconsistent G. In other words, C is uncertain about the credibility of G’s promise. This uncertainty is depicted by the information set at the third node of the game. Like in the subsidy game, the important point here is that C’s willingness to invest depends crucially on its beliefs about G’s time consistency, or, in other words, on the credibility of G’s promise. C will invest as long as p is reasonably high,2 but will not invest if p is low (and, conversely, 1p is high). The reason is straightforward: while a time-consistent G will uphold its promise and not expropriate, a timeinconsistent G will not be able to resist the temptation to grasp the shortterm gains of expropriation. C anticipates this and acts accordingly. In conclusion, this game clarifies the mechanisms through which the capacity of governments to make credible commitments is crucial to attract investments. Rational actors anticipate the future actions of the government, and decide not to invest if they have reasons to believe that their property rights will not be respected. Empirical evidence suggests that, in effect, economic actors are influenced by the stability of the regulatory framework when they set their investment strategies (Henisz, 2002). As we have seen, credibility is needed to attract investment. However, it is especially useful when utilities are liberalized and privatized (Spiller, 1993; Levy and Spiller, 1994, 1996). This exacerbation of the credibility problem is due to the conjunction of political and technological factors. First, utilities are characterized by the fact that their assets are highly specific and nonredeployable, which means that investment in utilities involves much more sunk costs than in other industries and are relatively irreversible. As Pindyck (1991) explains, an irreversible investment implies a loss of the option to invest, which constitutes an opportunity cost that is ‘highly sensitive to uncertainty over the future value of the project, so that changing economic conditions that affect the perceived riskiness of future cash flows can have a large impact on investment spending’. Second, utilities have high political salience, since they have a broad range of users that almost overlaps with the entire population. These two factors imply that politicians may have both the opportunity and the incentives to expropriate private investments made in utilities. In the worst scenario (for investors), governments may decide to re-nationalize after having privatized. In more plausible scenarios (especially in Western countries), expropriation can take subtler forms. Any change in regulation can potentially harm utility operators. Spiller (1993: 391–2) gives the example of licensing procedures: politicians may threaten not to renew a license unless the company agrees to lower prices below longrun average costs. More generally, expropriation can take the form of

44


specific requirements concerning pricing, investment, equipment purchases, or labor contract conditions (Levy and Spiller, 1994: 204). In Europe these arguments are especially relevant. Until the end of the 1980s utilities were typically state-owned monopolies. In the 1990s, most European governments carried out extensive regulatory reforms that included the privatization of state-owned enterprises (SOEs) as well as the introduction of competition in utilities markets. While at the end of the 1980s only in a few countries were telecommunications and electricity providers not publicly-owned, barely a decade later most public assets had been sold to private investors (Levi-Faur, 2003, 2004). In this context, credibility problems for policy makers have been very important not only because of the high sunk costs of entry in utilities markets, which make investments relatively irreversible, but also because the former SOEs, after partial or total privatization, have remained powerful actors. Prospective competitors may thus legitimately fear that, in spite of their promises that regulation will not be biased in favor of the old SOEs, policy makers will nevertheless be tempted to reserve preferential treatment for them. Unless the commitment to fair and impartial regulation is credible, prospective investors may be put off by the danger of collusion between the powerful incumbent and regulators, and may thus refrain from entering the market altogether. To sum up, in many instances policies need to be credible if they are to be successful. This is the case for policies that aim to attract investors, and especially in the utilities domain after liberalization and privatization. Unless the regulatory framework is favorable and stable, investors may be put off. Delegation as a Credibility-enhancing Device Credibility is thus a valuable political asset in many areas. Short of crediblecommitment capacity, suboptimal outcomes will be reached that make all actors worse off. Therefore, a straightforward implication is that, when credibility is lacking, mechanisms will be established that will enable actors to increase the credibility of their policy commitments. At a general level, two strategies to acquire credibility can be identified: the first is reducing freedom of action, and the second is changing payoffs (Dixit and Nalebuff, 1991: 142–68; Dixit and Skeath, 1999: 308–13). This distinction echoes that made by Shepsle (1991: 247) between motivational and imperative credibility: a commitment is motivationally credible if preferences are not timeinconsistent, that is, if the incentives at time t1 are the same as at time t, while it is imperatively credible if, despite different preferences at time t1, discretion is somehow disabled.


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A commitment can become motivationally credible in several ways. Policy makers care about their reputations, and integrate the long-term costs of breaking a commitment in terms of future lack of credibility. If they do not, freedom of action can be reduced. The most relevant for our purposes is delegation to an independent authority. If policy makers give up powers in a given domain (for instance, monetary policy or licensing) and delegate them to an authority that they cannot directly control, then even if their preferences change over time their policy commitments will be credible, since they are no longer in charge of the policy. Of course, this presupposes that the authority to which powers are delegated is not subject to the same preference reversals as its political principals. Delegation to an independent and conservative central bank is the most cited means to increase the credibility of monetary policy3 (Rogoff, 1985; Herrendorf and Lockwood, 1997; Franzese, 1999). If interest rates are set not by politicians subject to electoral pressures and for which low inflation may not be the first priority, but rather by technocrats known to have strong preferences for low inflation and which cannot be directly influenced by politicians, then a commitment to low inflation will be more credible than if the latter are free to determine monetary policy. The commitment is credible in an imperative sense: politicians cannot influence interest rates, and the timeinconsistency of monetary policy is reduced. The implication of these arguments is that inflation should be lower in countries where the central bank is more independent. This hypothesis has been widely tested, and most empirical studies have in effect found a negative relationship between central bank independence and inflation rates (see for example Cukierman et al., 1992; Franzese, 1999; Berger et al., 2001). Although some authors are sceptical (see for example Forder, 2000), this empirical result is robust. Partly following this literature, scholars have argued that delegation to independent regulatory agencies is a means of increasing the credibility of regulatory policies (Spiller, 1993; Levy and Spiller, 1994, 1996; Majone, 1997b, 2001). The argument is essentially the same as for central banks: if regulation is delegated to technocrats that are not subject to electoral pressures and cannot be directly influenced by politicians, then regulation will be more credible than if politicians control it. As with central banks, delegation makes regulatory commitments imperatively credible: politicians may have time-inconsistent preferences, but these preferences do not translate into regulatory changes because they do not control regulation. Summary This section discussed how time-inconsistent preferences give rise to credibility problems for policy makers, who, as a result, are likely to look for

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ways to increase the credibility of their policy commitments. Time inconsistency has three sources. First, exogenous changes in the policy making context lead decision makers to revise their policy when it no longer fits the situation. Second, the shape of the discount function can cause temporary preference reversal. If actors do not discount the future exponentially but hyperbolically, which is consistent with experimental evidence, then time inconsistency arises simply as an effect of the passage of time, and closer objectives with lower utility may be preferred to more distant objectives with higher utility. Third, time inconsistency arises from the rational expectations of the targets of policies. If these actors do not anticipate that policy makers may not be able to keep their promises, then pressures for changing course of action will not materialize. Time-inconsistent preferences generate credibility problems for policy makers. Credibility is a valuable political asset in a number of contexts, especially in economic and regulatory policy making. Given this importance, policy makers can be expected to try to strengthen their crediblecommitment capacity when it is weak. Delegation to an independent authority can be one means of doing so. In the context of regulation, then, independent regulatory agencies can increase the credibility of regulatory policy making.

POLITICAL UNCERTAINTY AND DELEGATION The credibility argument is the most popular explanation for delegation to independent authorities. There is however a second argument: political uncertainty (Moe, 1990, 1991, 1995, 1997; Moe and Caldwell, 1994; Horn, 1995; Horn and Shepsle, 1989). According to Moe (1995: 124), ‘the right to exercise public authority can be thought of as a property right of sorts. These rights are used . . . to make choices about policy and the structure of government.’ The problem is that, unlike in the economy, in a democratic system these political property rights are uncertain because they are periodically reallocated without any compensation for the losers (Moe, 1990: 227). Therefore, before caring about the transaction costs that characterize economic organization and institutions, political actors have to secure their property rights, which consist of authority over policy. To this extent, political actors, in opposition to economic ones, are concerned with more than simply making efficient choices about how to use their property. While the property rights of economic actors are guaranteed in democratic states, those of political actors are not, precisely because of the democratic nature of the state. As a consequence, the first concern of political actors will be to secure their


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property rights when they have the opportunity to do so. The uncertainty of political property rights is then likely to play a key role in the design of political institutions. In particular, this may lead legislators to design bureaucracies that they cannot control (Moe, 1995: 131). These arguments have attracted some attention in the economics literature, where it is argued that political uncertainty gives incumbent conservative governments incentives to limit the spending capacity of future leftist governments (see for example Glazer, 1989; Persson and Svensson, 1989; Alesina and Tabellini, 1990; Tabellini and Alesina, 1990; for a more critical view, see Franzese, 2002a, b). In political science, de Figueiredo (2002) developed a formal model showing that when they are in power, electorally weak groups attempt to protect their policies by insulating them from political control. The model explicitly aims to formalize Moe’s arguments. The analysis starts with an examination of the conditions under which different parties4 have incentives to cooperate, that is, not to overturn each other’s policies when they have the opportunity to do so (that is when they hold office), assuming that policy insulation is not possible.5 The model shows that not only is cooperation possible, but actually becomes easier to sustain as political uncertainty increases, but only to the point that it is balanced between the two groups, that is, if the probability of (re-)election is 0.5 for both. This reflects a situation in which no group is electorally dominant. Considering first the situation where insulation is not an option thus shows that there are no reasons to expect that parties will necessarily undo their opponent’s policies as soon as they have the opportunity to do so (what de Figueiredo calls ‘sabotage’). The reason is that there are gains from cooperation. The model shows that ‘sabotage’ becomes more likely when the electoral strength of the two parties becomes more asymmetric, that is, when the (re-)election probability of either party approaches 1. De Figueiredo then introduces the insulation option in the model. Through insulation, groups can prevent their opponents from overturning the policy they chose while in power. On the one hand, ‘sabotage’ is impossible. On the other hand, insulation is costly. First, it may be conducive to bureaucratic drift. Standard principal-agent theory argues that without appropriate controls, bureaucratic agents will be likely to neglect the principal’s welfare. Second, insulation involves self-binding, which happens when the party that insulates is re-elected. Insulation prevents anybody, not only the political opposition, from overturning policy. Therefore, if a party either thinks it will not lose office or that it will regain office soon, insulation involves binding others for a short time and self-binding for a much longer time. One of the main results of the model is that the choice to insulate depends on both the costs of insulation and the probability of re-election (that is, political uncertainty). In particular, at a same level of

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political uncertainty, the level of costs determines if one, both, or neither party chooses to insulate. At moderate levels of political uncertainty (probability of re-election around 0.5 for both parties), both parties choose insulation for low levels of costs, but if these costs are high, neither insulates. This result strongly qualifies the conclusions of the original theory formulated by Moe, in which the relationship between political uncertainty and insulation is unconditionally positive. Note, however, that the noinsulation option under political uncertainty is chosen only if the costs of insulation are at least moderately high. If costs are not prohibitive, at least one party always insulates. The model’s main prediction is that electorally weak groups that happen to be in power are most likely to insulate (de Figueiredo, 2002: 321, 328). This hypothesis is tested in de Figueiredo (2003), where the introduction of the ‘line-item veto’ among governors in the US is studied. The line-item veto gives the governor veto power over the budget, which, empirically, has the effect of slightly reducing state budgets. The line-item veto thus constitutes a mechanism through which budgetary decisions can, to a certain extent, be protected from the influence of future majorities. Given its effects, conservative parties will be more likely to pass it. De Figueiredo’s analysis shows that conservatives support the line-item veto, but only when they are historically weak. This finding corroborates de Figueiredo’s political uncertainty hypothesis (2002). Further supporting evidence comes from Volden (2002a), who studied delegation to bureaucracies for the Aid to Families with Dependent Children program in the US from 1935 to 1996. Volden finds that parties ‘in decline’6 are four times more likely to delegate policy making powers to bureaucracy, which is clearly consistent with the political uncertainty argument. Support for the political uncertainty hypothesis comes also from a study of the termination of administrative agencies in the US, which is more likely in the wake of political turnover (Lewis, 2002), and of the design of US administrative agencies, which tend to be more independent when legislators fear that their policies will be undone by the president or by future majorities (Wood and Bohte, 2004). Finally, qualitative evidence for the case of privatization and independent regulatory agencies in the United Kingdom is offered by Vogel (1996: 131), who argues that the insulation of regulation from political control was partly due to the desire of the Thatcher administration to prevent future Labour majorities from influencing regulatory policy. What follows from these studies is that, under some conditions, politicians should be expected to find a method to make their policy choices last beyond the moment, which can be postponed but not avoided, when they will lose their political property rights over a given policy area. By insulating policy making from politics, current principals lose some control when


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they are in office, but this will ensure that their choices will last longer. According to Moe (1990, 1991, 1995), the solution is creating detailed legislation. Another possibility is to delegate authority to independent agencies and make them independent from both present and future political principals (Horn, 1995; Volden, 2002a). This argument can be found in the central banks’ literature. Lohmann (1998: 442), for instance, argues that one reason why politicians make central banks independent is that ‘they anticipate that they might be in the opposition in the future’, while according to Cukierman (1994: 56) when different parties competing for office disagree about the structure of government expenditures . . . the party currently in office may grant some independence to the [central bank] also in order to restrict the ability of the opposition (if and when it accedes to office) to spend on public goods which are in low priority for the incumbent party.

The same point is made by Goodman (1991: 346): Politicians generally wish to maintain a high degree of freedom in their actions. However, they will be willing to change the status of the central bank to bind the hands of their successors, a decision they will make when they expect a short tenure of office. Binding the hands of one’s successors, I have argued, is a critical element of any institutional change and a viable political strategy in the area of monetary policy.

To conclude, a note is necessary on the relationship between credibility and political uncertainty. It is clear that the two concepts are related. For the purposes of empirical analysis, the problem is that regardless of the cause (credibility or political uncertainty) the effect is always delegation. If delegation is observed, then, determining whether credibility or political uncertainty explains it may be quite difficult. There might be no telling if delegation is an act of self-binding or an attempt to bind others. It is, however, clear that the two problems are conceptually distinct. The main difference is that credibility problems do not necessarily emerge out of the democratic process, while political uncertainty would not exist without elections. A dictator, even a benevolent one, may very well suffer from credibility problems, a point made also by Lohmann (2003), while it would certainly not be subject to political uncertainty. Having said this, political uncertainty affects the credible commitment capacity of a government, so that the two problems cannot fully be distinguished. Political uncertainty leads to time-inconsistent preferences for the government (defined as institution and not as a particular coalition). Equalling political uncertainty with time-inconsistency, like Alesina and Tabellini (1988) do, is however inaccurate: as we have seen, time inconsistency has a number of causes that are unrelated to the democratic process.

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In fact, several authors clearly treat these two concepts as separate. Elster (2000), for instance, clearly states that self-binding and binding others are distinct phenomena. Pierson (2000: 262) also insists on the distinction. Therefore, although the boundary between political uncertainty and credibility is somewhat blurred, trying to discriminate between them, both theoretically and empirically, is certainly useful.

VETO PLAYERS AND DELEGATION We have seen that two problems generate incentives for policy makers to delegate regulatory authority to independent agencies, namely the credibility and political uncertainty problems. Delegation, however, is not carried out in a void: the institutional context matters. In particular, veto players are likely to play an important role. Veto players are actors whose agreement is necessary to change the status quo. They are related to policy stability because they influence the size of the winset of the status quo, that is, the set of outcomes that can replace it (Tsebelis, 1995, 1999, 2000, 2002). The size of the winset can be used as proxy for policy stability: the fewer points that can defeat the status quo (that is the smaller the winset), the less change is likely; the smaller the winset, the less likely that some subset of it will satisfy external constraints. In the presence of transaction costs, actors will not undertake a small policy change, thus the status quo will prevail; even if change does happen, it is likely to be incremental. There are two types of veto player. Institutional veto players, on the one hand, are specified by the Constitution, and their agreement is both necessary and sufficient for policy change. Partisan veto players, on the other hand, consist of the members of the governmental coalition,7 whose number is determined by the party system. Tsebelis acknowledges that institutional and partisan veto players are not the only relevant veto players in a political system. Additional categories exist, such as trade unions, central banks, referenda and courts, but, unlike institutional and partisan veto players, they are likely to vary by policy areas. Tsebelis demonstrates that the size of the winset (policy stability) decreases (increases) with the number of veto players, the ideological distance between them, and their internal cohesion. The distance between institutional veto players affects their congruence.8 If the distance between two veto players is zero, they are perfectly congruent and should then be absorbed (counted as one). An example would be two chambers controlled by the same party. Cohesion, however, is the difference of positions within a party before a discussion and a vote takes place inside the party. It is


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affected by the size of the veto player (a single person player has the highest cohesion, but cohesion increases with the number of individuals comprising a veto player), the electoral system, and the institutional structure. Tsebelis’ theory thus suggests that veto players affect policy stability. If it is high, both the credibility and the political uncertainty problems should be mitigated. If policies tend to be stable over time they are more credible, and less sensitive to changes in the partisan composition of governments. In this sense, veto players can be seen as a functional equivalent of delegation. This view is shared by Levy and Spiller (1994: 206–7): ‘Utility regulation is likely to be far more credible – and the regulatory problem less severe – in countries with political systems that constrain executive and legislative discretion.’ In other words, to the extent that the political system ‘naturally’ ensures policy stability and therefore credibility, delegation is redundant. Conversely, if such ‘natural’ protection does not exist, delegation becomes an attractive solution. Spiller and Vogelsang (1996, 1997) illustrate this point for the UK. In the British political system the power of the executive is virtually unconstrained: as a result, the credibility of the regulatory framework requires other mechanisms, notably including IRAs. The idea that institutions protecting the status quo can supply precommitment capacity resonates with the arguments advanced by North and Weingast (1989), who showed that the institutional reforms brought by the Glorious Revolution in England, specifically the increase in the number of veto players, improved the credible-commitment capacity of the Crown. This is a quite robust finding, since several studies have demonstrated that an institutional context preserving policy stability encourages various forms of private investment (Henisz, 2000, 2002; Henisz and Zelner, 2001; Stasavage, 2002b). This supports the view that the institutional context can supply credibility; this evidence is equivalent to that supplied by studies demonstrating a negative link between central bank independence and inflation. At the same time, the central banks’ literature contends that delegation does not enhance credibility if it can be easily reverted, since in this case delegation itself is subject to credibility problems. As Moser (1999: 1571) puts it, ‘the benefits of central bank independence depend on the existence of some costs of withdrawing the independence’. In line with this view, Keefer and Stasavage argue that delegation increases policy credibility only if political institutions are characterized by many veto players: ‘the effectiveness of central bank independence in solving credibility problems depends on the presence of multiple veto players in government’ (Keefer and Stasavage, 2002: 751–2; see also Keefer and Stasavage, 2003: 407). This point was forcefully made by Lohmann (1998), who argued that credible threats to revoke

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independence can be an effective means for politicians to influence central bankers, and that credibility depends crucially on the ease with which the threat can be carried out. If lowering the independence of the central bank is difficult because it requires the agreement of many actors with different preferences, then the threat is not credible and central bankers are likely to be able to resist political pressures. The same views on the role of veto players have also been raised in the context of political uncertainty. Both Moe (especially Moe and Caldwell, 1994) and de Figueiredo (2002) argue that, if policy change is not constrained, insulation is not worthwhile because it can be withdrawn as easily as it was introduced. This argument is consistent with three types of evidence related to central banks. First, central banks are significantly more independent in countries with ‘strong checks and balances’ (Moser, 1999), ‘strong bicameralism’ (Bernhard, 1998), or many veto players (Tsebelis, 2002: 242–4; Hallerberg, 2002). Second, the influence of central bank independence on inflation depends on checks and balances: ‘increased central bank independence has a negative effect only in the set of countries with relatively high levels of checks and balances’ (Keefer and Stasavage, 2002: 767; see also Keefer and Stasavage, 2003). Third, Lohmann (1998) has shown, on the one hand, that the Bundesbank was more sensitive to political pressures when the preferences of the various veto players were closer, or in other words when the threat to revoke independence was more credible. On the other hand, a recent longitudinal study Polillo and Guillén (2005) has found no effect of ‘checks and balances’ on central bank independence. However, their measure for checks and balances is actually a measure of democracy rather than veto players (see Polillo and Guillén, 2005: 1786). To sum up, there is a consensus that the political context matters for delegation to independent authorities. For some authors, however, political institutions that preserve policy stability are a functional equivalent of the status quo, while for others they are a precondition for meaningful delegation. These contrasting hypotheses will be empirically tested in the next chapter.

CONCLUSION In this chapter we have argued that delegation to IRAs cannot be explained by standard principal-agent arguments. Since the key characteristic of independent regulators is that they are deliberately outside political control, expertise cannot be the primary explanation. Rather, we propose three arguments that can account for the independence granted to regulatory authorities.


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The first is the credibility argument: policy makers delegate powers to independent regulators so as to increase the credibility of their policies. Credibility is problematic because preferences can change over time, and this for three reasons, each of which is sufficient to create time inconsistency: first, the decision-making context changes exogenously; second, economic actors anticipate the inability of policy makers to stick to their commitments, and thus generate pressures for them to change course of action; and third, policy makers discount the future hyperbolically, which causes temporary preference reversals. A lack of credibility is problematic because it prevents policy makers from achieving their goals. In the context of regulation, if regulatory policies are not credible, policy makers may be unable to attract private investment. A possible solution is to delegate regulation to an independent authority that cannot be directly influenced by elected policy makers. The second argument is political uncertainty: policy makers delegate powers to independent regulators in order to prevent future policy makers from influencing regulatory policy. Insulating policy from politics may be an attractive solution for policy makers who think that their reelection prospects are bad. In this case, delegation means self-binding for a short time, and binding others for a long time. The third is that the institutional context matters. To the extent that institutions promote policy stability, both the credibility and the political uncertainty problem are somewhat mitigated. Even if preferences change, policies cannot be easily changed, which makes them more credible, and changes of government do not lead to major policy reversals. On the one hand, many veto players, which are related to higher policy stability, constitute a functional equivalent of delegation. On the other hand, some authors have developed the opposite argument: delegation makes sense only to the extent that it cannot be easily withdrawn, which is the case if there are many veto players. The next chapter empirically examines these hypotheses by comparing the formal independence of regulators in 17 European countries and seven regulatory domains.

NOTES 1. For ease of presentation, the alternative path of the game, where G does not commit itself in the first move, is not represented. As making the commitment dominates not making it, this leads to no loss of information for the analysis. 2. As in the subsidy game, a precise cut-off point can be computed only with cardinal payoffs. 3. Another instrument, fixed exchange-rate regimes, has also similar properties, since it amounts to delegating monetary policy to a foreign central bank (Bernhard et al., 2002).

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4. In the model, the players are actually interest groups, who are assumed to have perfect control over the politicians they support. This assumption is quite extreme, but is consistent with Moe’s original arguments. Furthermore, little would change in the interpretation if players were assumed to be political parties. 5. De Figueiredo follows Moe and Caldwell (1994) and argues that insulation is meaningful only in the presence of checks and balances, because otherwise it can be easily withdrawn (for a discussion of this issue, see pp. 51–2). De Figueiredo’s argument about cooperation, thus, refers in fact to political systems with few veto players, although, always following Moe and Caldwell (1994), he argues that the no-insulation option is found in parliamentary systems. Such assumptions are, however, not necessary for the substantive interpretation of the results. 6. Parties are defined as in decline ‘if a party controlled a unified government in the previous period, lost seats since that period, and controls less than two-thirds of either house of the state legislature’ (Volden, 2002a: 213). 7. Strictly speaking, their agreement is neither sufficient nor necessary for policy change, because their decisions can be defeated in parliament, which can occur under minority and oversized majority governments. However, since ignoring coalition partners imposes political costs, all participants in a government coalition should be considered veto players (Tsebelis, 1995: 303–4). 8. Partisan veto players should usually be considered as distinct.

4.

The formal independence of regulators: empirical analysis

INTRODUCTION Independent regulatory agencies are the cornerstones of the regulatory state that has come into being throughout Europe during the last 15 years. In Chapter 3 we saw that delegation to independent regulators is in many ways puzzling: normally we would not expect political principals to grant significant powers to administrative agents and then make them explicitly independent, at least in part, of political control. Therefore, delegation to IRAs cannot be explained simply by the need for specialization and expertise: these factors certainly matter for the creation of specialized agents, but not for making them independent. Therefore, three complementary explanations were developed. The first argues that granting formal independence to regulators is a way for policy makers to increase the credibility of their policy commitments, which is a valuable asset especially when one of the main goals of regulation is to maintain an investor-friendly environment. The second explanation is also linked to the inherent instability of policies, but focuses on the dangers posed by the democratic process for the survival of the policy choices of current policy makers. Since majorities come and go, future policy makers with different preferences are in a position to undo the achievements of current policy makers. Delegation to independent authorities, from this perspective, is a means for current policy makers to increase the durability of their choices by protecting them from political influence, both present and future. The third explanation stresses the institutional context: in the presence of many veto players, policies executed by independent authorities are more stable, which mitigates both the credibility and the political uncertainty problems. Accordingly, policy makers can be expected to grant independence to regulators especially in countries where the institutional context does not create many obstacles to policy change. In this chapter we consider these arguments empirically by comparing systematically the formal independence of regulators in 17 countries and seven sectors. We first examine the issue of how formal independence can be measured. The analysis uses data for an original independence index based 55

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on that for central banks, but adapted to the specificities of regulators. It is also argued that focusing only on the formal dimensions of independence (and excluding de facto or informal independence) is appropriate when studying institutional choices, since only formal aspects can be directly influenced by policy makers. Next, we analyze these data. The findings confirm the main hypotheses developed in Chapter 3. Finally, we consider how these explanations fare when applied to central banks. In principle, as we have seen, central banks share many similarities with independent regulatory agencies. On the other hand, the central banks’ literature has developed different arguments on the role of the institutional context. The empirical analysis of formal independence confirms that central banks and independent regulatory agencies are ‘similar but different’, creating a puzzle for the literature on delegation to independent authorities.

MEASURING THE FORMAL INDEPENDENCE OF REGULATORS In Chapter 2 we argued that the defining characteristic of IRAs is their independence, namely, the fact that they are beyond the direct control of elected officials. Of course, independence is not a binary concept: regulators may be independent from politicians to different degrees. To capture this idea, five dimensions seem especially relevant, namely, the status of the agency head, that of the members of the management board, the relationship with government and parliament, financial and organizational autonomy, and regulatory competencies. With respect to the status of the agency head and board, it makes a difference if they are appointed for a renewable term by a minister who has the power to dismiss them, or if they are selected jointly by government and parliament for a non-renewable fixed term, with no possibility of early dismissal. The agency is certainly more independent in the latter case than in the former, all else equal. Similarly, the extent of financial and organizational autonomy influences the independence of a regulator. This will certainly be higher if the agency can conduct an autonomous personnel policy and does not have to rely on the government to finance its activities than if the size and composition of staff and the budget are under the control of the government. Cutting budget and staff, or influencing its composition, can be an effective means for a government to limit the effectiveness of an agency in the event that it disapproves of its policies. Taken together, these five dimensions can be used to develop an index of formal independence (Gilardi, 2002). The index, whose construction is shown in detail in Appendix 1, varies from 0 (no independence) to 1 (full

The formal independence of regulators

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independence), and is based on indices of central bank independence (Cukierman et al., 1992; Alesina and Summers, 1993; Grilli et al., 1991), which have been adapted for regulators. It should be emphasized that this index pertains only to the formal aspects of independence. Informal, or de facto, or ‘real’ independence is not taken into account. Central bank independence indices have been strongly criticized precisely because of their exclusive focus on the formal dimensions of independence (see for example Forder, 1998, 2001; Mangano, 1998). My understanding of this problem is that formal independence indices are not all-purpose measures that are relevant to a wide range of research questions. For example, if one is interested in the effects of independent agencies on regulatory policies, the informal or de facto aspects of independence are of greater importance. In effect, it is well known that formal and informal independence do not necessarily correlate. For example, the Bundeskartellamt, the German competition authority, enjoys an excellent reputation for de facto independence (see for example Wilks and Bartle, 2002) despite its relatively low level of formal independence.1 In a recent study, Maggetti (2007) has also found that formal independence is neither necessary nor sufficient for de facto independence. On the other hand, if we are interested in the institutional design of regulators, the formal aspects of independence are the only ones that policy makers can directly influence. In this case, it makes perfect sense to focus on formal independence and to leave aside its informal dimension. We return to the importance of informal or de facto independence in the conclusion of the book. It should also be noted that, although formal institutions are not everything, they do matter. A consistent finding of the central banks’ literature is that central banks that are formally more independent are more effective in constraining inflation (see for example Franzese, 1999, 2003; Berger et al., 2001). In addition, one of the main arguments of the new institutionalism in political science is precisely that formal institutions matter. A prominent case in point is that of veto points and veto players: the distribution of power among the two chambers of a legislative assembly, for instance, influences the possibilities for policy change (Immergut, 1992; Tsebelis, 2002). An anecdote illustrating that the formal aspects of independence are not mere window-dressing is the scandal that struck Antonio Fazio, the governor of the Bank of Italy, in 2005.2 His allegedly illegal involvement in the sale of the Banca Antonveneta, disclosed by tapped telephone calls, put him under enormous political and popular pressure to resign, but the government was unable to remove him from his position. Fazio did eventually resign, but weathered for about six months a political storm that would have brought him down much earlier if the Italian central bank had not been formally independent from the government. To sum up,

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there is much more to independence than formal provisions, but these matter and deserve investigation. Data on the formal independence of regulators in the 17 countries and seven regulatory domains are given in Appendix 2. Figure 4.1 gives a broad overview of the formal independence of regulators in Western Europe. It shows the average level of independence in the 17 countries covered by this study, as well as in the three main categories of regulatory domains, namely, utilities, other economic regulation, and social regulation.3 Vertical lines indicate the average independence of regulators within each domain. We can see that there are significant cross-national and cross-sectoral differences. Regulators tend to be most independent in utilities, and more independent in other economic domains than in social regulation. This observation gives preliminary support to the credibility hypothesis, which, as we saw in Chapter 3, argues precisely that credibility pressures should be strongest for utility regulation and weakest for social regulation. All the hypotheses are tested systematically in the next section.

EXPLAINING VARIATIONS IN FORMAL INDEPENDENCE: CREDIBILITY, POLITICAL UNCERTAINTY AND VETO PLAYERS We saw in Chapter 3 that delegation to independent regulatory agencies cannot be explained from a standard principal–agent perspective. In contrast to the principal–agent view, delegation to independent regulators is characterized by a violation of the ‘ally principle’ (the agent should be selected so as to be as similar in preferences to the principal as possible) and of the conclusion that, the more the agent’s preferences deviate from the principal’s, the more developed the ex post controls should be. Although, of course, formal independence does not imply the absence of control, independent regulatory authorities hardly fit the standard principal–agent view of delegation. Rather, three main hypotheses were developed on the roles of credibility, political uncertainty and veto players. We summarize them briefly; for a detailed discussion, see Chapter 3. The credibility problem is linked to the fact that the preferences of policy makers may change over time, which weakens the credibility of policy commitments (Majone, 1997a, 1997b, 2001; Gilardi, 2002). This is a problem because the capacity to make credible commitments is in some cases an important political asset. This is especially the case for utility regulation, where the main goal is to create and maintain a well-functioning market. One of the goals of policy is attracting private investment, which is sensitive to the instability of policy decisions. Therefore, delegation to IRAs may

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The formal independence of regulators .6

.8

Austria Belgium Denmark Finland France Germany Greece Ireland Italy Netherlands Norway Portugal Spain Sweden Switzerland United Kingdom

Utilities regulation

.4

Austria Belgium Denmark Finland France Germany Greece Ireland Italy Luxembourg Netherlands Norway Portugal Spain Sweden Switzerland United Kingdom

Economic regulation

.2

Austria Belgium Denmark Finland France Germany Greece Ireland Italy Luxembourg Netherlands Norway Portugal Spain Sweden Switzerland United Kingdom

Social regulation

0

Figure 4.1 The formal independence of regulators: average values for countries and regulatory domains

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be an attractive way to increase the credibility of regulatory commitments in economic regulation in general and utility regulation in particular. The first hypothesis is therefore that regulators should be more independent in economic regulation than in social regulation, and utility regulators should be the most independent of all. Second, while solving the credibility problem is about self-binding, insulating regulatory policy from politics may also be a means to tie the hands of other actors, namely, future policy-makers (Moe, 1990; de Figueiredo, 2002; Gilardi, 2005a). In democracies, elected officials are bound to be replaced, sooner or later, by their opponents, who may wish to change current policies. This is known as the political uncertainty problem. Delegation to IRAs may be a means to limit the discretion of future policy makers, and therefore to increase the duration of policy choices. Political uncertainty is operationalized as replacement risk, that is, the risk of a government being replaced by another government with different preferences (Franzese, 2002b). Replacement risk is linked to two factors. The first is the duration of governments, or more precisely their expected duration. In Franzese’s terminology, this is the ‘hazard rate’, defined as the inverse of the actual duration of governments. If governments are short-lived and the hazard rate is therefore high, political uncertainty also tends to be high, all else equal. A second important component, however, is the composition of the new government, which may be very different from or very similar to the previous one. Replacement risk, our measure of political uncertainty, is therefore the product of the hazard rate and of the variation of the partisan composition of governments. The detailed operationalization and data sources are discussed in Appendix 3. Figure 4.2 demonstrates that it is important to take into account both factors, namely, the hazard rate and variations in the partisan composition of governments. In effect, since many government changes do not result in major variations in partisan composition, replacement risk is generally lower than the simple hazard rate. Switzerland is an extreme case in point. In Switzerland, the same coalition was in place between 1958 and 2003, forming what was known as the ‘magic formula’. As a result, political uncertainty was virtually non-existent, even though elections were of course held every four years. By contrast, replacement risk was significantly higher in France and Italy. In the latter, however, it was often lower than the notorious governmental instability might have suggested, since the partisan composition of governmental coalitions hardly changed. Finally, the United Kingdom is an opposite example. Preferences change dramatically from one government to the next, but parties tend to stay in power for a long time, which lowers political uncertainty. Figure 4.2 shows that these points are well captured by the replacement risk measure.

Figure 4.2

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Veto players Figure 4.3 Veto players and the formal independence of regulators (country averages) Third, the institutional context matters for delegation to independent regulatory agencies because it influences policy stability and, therefore, both the credibility and the political uncertainty problems. More specifically, veto players should be related to the formal independence of regulators since, by making policy change more difficult, they tend to mitigate the two problems. In this sense, veto players may be seen as functional equivalents of delegation. Patterns of delegation to independent regulators should thus be expected to vary systematically across countries according to their institutional characteristics: in countries with more veto players, regulators should be granted less independence. Following Tsebelis (2000: 451), the number of veto players is obtained by applying a three-step procedure: ‘(1) identify and count institutional veto players; (2) replace institutional players by multiple partisan players if there are stable majorities; (3) apply the absorption rule and eliminate redundant VPs.’ Veto players are redundant when they have the same partisan composition or affiliation. Data are taken from Tsebelis’ dataset, which is available on his website.4 Figures 4.3 and 4.4 show bivariate relationships between the formal independence of regulators (country averages) and, respectively, veto players and replacement risk. These data are explored in a simple analysis presented

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Replacement risk Figure 4.4 Replacement risk and the formal independence of regulators (country averages) in Table 4.1 (Model 1). It is clear that formal independence is negatively associated with veto players, and positively linked to replacement risk. Both veto players and replacement risk are highly significant, and these two factors account for 50 per cent of the variance in country averages of the formal independence of regulators. While this analysis of country averages is preliminary, it does give prima facie support to the hypotheses. Regulators tend to be more independent in countries with few veto players and where replacement risk tends to be high. We turn now to the analysis of the formal independence of all regulators included in the dataset. Since the dependent variable is 0 for about 20 per cent of the observations (that is, in about 20 per cent of cases there are no independent regulators), ordinary least squares (OLS) is not an appropriate estimator. Two options are available: the Tobit and the Heckman models (Breen, 1996; Sigelman and Zeng, 2000). The former is appropriate in cases of censoring, that is, when the value of the dependent variable fails to reach a threshold for some observations, to which the default value of 0 is attributed. The Heckman estimator is appropriate in the presence of sample selection, that is, when the value of the dependent variable is unknown because other variables determine whether observations fall in

64

Table 4.1


The formal independence of regulators: statistical analysis (1) OLS

(2) Tobit

0.442*** (0.110) 0.075*** (0.021) 0.493*** (0.063)

0.381*** (0.077) 0.272*** (0.066) 0.629*** (0.148) 0.097*** (0.028) 0.264*** (0.099)

Utilities Other economic regulation Replacement risk Veto players Constant R2 F Wald 2 N (censored)

0.50 10.93 15 (0)

47.12 100 (22)

Notes: Robust standard errors in parentheses (model 2: for clustering on countries). *** p 0.01.

the selected sample (Breen, 1996: 33–45; Sigelman and Zeng, 2000). Whether the Tobit or the Heckman offers the better model of delegation to IRAs is debatable. Heckman’s emphasis on explicitly modeling the selection process is appealing, but many scholars have expressed doubts about the usefulness of this estimator for real datasets (see for example Puhani, 2000). Moreover, since the ‘selection process’ refers in this case to decisions to establish IRAs, a purely cross-sectional analysis is a rather crude way to investigate what is in fact a longitudinal process (the longitudinal aspects of the establishment of independent regulators are developed in Chapters 5 and 6). Another problem of the Heckman estimator is that it works best when the outcome and selection equations do not have many variables in common (Puhani, 2000: 57–8). If they do share many variables, as would be the case here (see Gilardi, 2005a), collinearity problems arise in the outcome equation, which weakens the robustness of estimates. The analysis presented here employs the Tobit estimator; for other specifications, including the Heckman, see Gilardi (2005a). Model 2 in Table 4.1 shows the results of the analysis of all regulators. First, regulators tend to be more independent for utilities and other economic regulation than for social regulation. This is consistent with the credibility hypothesis: the need for credible-commitment capacity varies across regulatory domains, and is stronger in economic regulation, where policy


65

makers need to persuade investors of the stability and fairness of the regulatory framework. The problem is especially relevant to utility regulation. In this domain, economic actors have limited possibilities of withdrawing investments since they are made over a relatively long period of time, which makes them vulnerable to changes in regulation. Delegation to independent regulators is a possible solution to this problem, and the results shown in Table 4.1 indicate that in effect utility regulators tend to be formally more independent than other regulators. Second, political uncertainty also matters. The higher the risk for policy makers of being replaced by other policy makers with different preferences, the higher is the independence of regulators. This indicates that delegation to independent authorities is partly a means for policy makers to protect their policy choices from the intervention of future majorities. This finding is in line with a prominent account of the telecom liberalization process in the United Kingdom: Beyond their ideological preference for the separation of regulation from policy, Thatcher administration officials favored independent regulators because of the dynamics of alternance in British politics. The party in power wants to be able to infiltrate the bureaucracy, but by the same token wants to guard it from infiltration by the other party. Thus Conservative Party leaders were keen to establish independent regulators that could not easily be ‘captured’ by the Labour Party. (Vogel, 1996: 131)

The example of the United Kingdom is relevant also to our arguments on veto players. In effect, alternation in government can lead to brisk policy reversals because the institutional structure does not prevent them: there is essentially only one veto player in the system, namely, the Prime Minister (Tsebelis, 1995, 2000). By contrast, in systems with a higher number of veto players (for example, Switzerland and Germany) such reversals are much more difficult, and the political uncertainty problem is less salient. This argument is consistent with the results of the statistical analysis: regulators tend to be more independent in countries with fewer veto players. Regression coefficients are not easily interpretable in general, and this is especially true with Tobit models, since coefficients do not represent marginal effects of the independent variables on the dependent variable. Therefore, Figure 4.5 shows how, according to the statistical results, formal independence varies as a function of the regulatory domain and veto players, while Figure 4.6 does the same for replacement risk instead of veto players. In both figures, the vertical axis represents formal independence, while the horizontal axis represents, respectively, veto players and replacement risk. Figure 4.5 shows clearly that utility regulators tend to be more independent than those in social regulation. If replacement risk and veto players are controlled for, utility regulators are on average almost 0.4 points

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Figure 4.5 The formal independence of regulators as a function of veto players and the regulatory domain (predicted values) more independent than social regulators. Second, the formal independence of regulators tends to decline as the number of veto players increases. All else equal, in countries with a single veto player (such as the United Kingdom) regulators have an independence score almost 0.3 points higher than regulators in countries with four veto players (such as Switzerland). This reflects the idea that, for regulatory policy, veto players constitute a functional equivalent of delegation: they increase policy stability, mitigate the credibility and political uncertainty problems, and thus make delegation less necessary. Figure 4.6 displays again the difference between utilities and social regulation, and shows that formal independence increases with replacement risk. All else equal, the independence score is more than 0.3 points higher when it is very likely that policy makers will soon be replaced by a new government with different preferences than when this risk is very low. This is consistent with the hypothesis that policy makers insulate policy from politics partly in order to protect their policy choices from changes when they have left office. To sum up, the statistical analysis confirms the three main hypotheses developed in Chapter 3: delegation to independent regulators is linked to

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.15

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Figure 4.6 The formal independence of regulators as a function of replacement risk and the regulatory domain (predicted values) the need to increase the credibility of policy commitments and to the need to cope with the political uncertainty problem, and is mediated by the institutional context. Veto players are a sort of functional equivalent of delegation, since by increasing policy stability they both make policy commitments more credible and limit the consequences of political uncertainty. As we saw in Chapter 3, some of these arguments have been advanced also for central banks. However, in the central banks’ literature veto players are seen more as a precondition for credible delegation than as a functional equivalent. It is argued that delegation does not make sense unless withdrawing independence is difficult, which suggests a positive relationship between veto players and the formal independence of central banks. The next section considers these arguments empirically.

CENTRAL BANKS AND REGULATORY AGENCIES: THE SAME BUT DIFFERENT? In Chapter 3 we discussed the similarities and differences between IRAs and independent central banks. Although both are authorities that have

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been deliberately made independent from policy makers, there are significant differences in how the literature has theorized delegation, and in particular the role of the institutional context, in these two cases. As we have just seen, veto players are functional equivalents of delegation for IRAs: when many veto players are present, policy stability is high and therefore delegation is not needed to increase credible-commitment capacity or cope with political uncertainty. However, the argument in the central banks’ literature is exactly the opposite: delegation itself needs to be credible, and this is possible only within an institutional context that promotes policy stability (Moser, 1999; Keefer and Stasavage, 2002, 2003; Lohmann, 1998). If formal independence can be easily withdrawn, then it is useless both for increasing the credibility of policies and for constraining future policy makers. Therefore, the central banks literature expects a positive relationship between veto players and the formal independence of central banks. Political uncertainty has attracted less interest among scholars of central banks, but a few authors have argued that the problem is essentially the same as for independent regulators: formal independence can be a means to bind future majorities (Goodman, 1991; Cukierman, 1994; Lohmann, 1998). For central bank independence, I use two types of measure. The first is an average of the most commonly used indices, with data taken from Franzese (1999, 2003). All indices take into account aspects such as the status of chief executive officer, and the powers and objectives of the central bank. Franzese’s data reflect the situation in 1990. Second, I use the Cukierman index of legal independence (Cukierman et al., 1992), which is probably the best known and most commonly employed in the literature (and is one of the components of the Franzese measure), with data taken from Polillo and Guillén (2005). Since their data are longitudinal, I take into account central bank independence both before and after the Maastricht Treaty, which established the European Monetary Union and imposed, as a condition for joining the euro, significant strengthening of the independence of central banks. Even though it would in principle be better to use the more recent data (that is, for the post-Maastrich period), these are less informative on the country-specific factors leading to delegation to independent authorities, since the requirements of the Maastricht Treaty led to considerable convergence on the level of central bank independence in European countries.5 While the impact of supranational organizations on domestic policy making is obviously an interesting question that deserves consideration, from our perspective the Maastricht treaty has ‘artificially’ reduced the variation of central bank independence in European countries, and arguably limited the role of domestic factors in the decision to set the level of independence of central banks. Therefore,

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Table 4.2

The formal independence of central banks: statistical analysis

Replacement risk Veto players Constant R2 F N

(3) OLS Franzese

(4) OLS Cukierman

0.829*** (0.268) 0.155*** (0.034) 0.310** (0.102)

0.832*** (0.204) 0.081** (0.028) 0.382*** (0.072)

0.49 10.60 15

0.51 8.89 15

Notes: Robust standard errors in parentheses. *** p 0.01, ** p 0.05.

for our purposes it is more interesting to look at central bank independence in the pre-Maastricht period, when domestic factors were more ‘free’ to influence central bank structures (for an analysis that includes the postMaastricht period, see Gilardi, 2007). Table 4.2 shows the results of the analysis of delegation to central banks. For central bank independence, Model 3 uses the Franzese measure, while Model 4 uses the Cukierman index. In both cases, replacement risk is negatively related to formal independence, while veto players have a positive impact. These effects are displayed in Figures 4.7 and 4.8, which are based on Model 3. The formal independence of central banks increases as the number of veto players increases, which is consistent with the view that an institutional context that constrains policy change is a precondition for delegation rather than a functional equivalent to it. In other words, veto players matter for delegation to both independent regulators and central banks, but in opposite ways. Second, political uncertainty also matters, but again differently with respect to independent agencies: the formal independence of central banks decreases as replacement risk increases. In other words, central banks tend to be more independent in countries where the risk for policy makers of being replaced by majorities with different preferences is generally low. This is consistent neither with our findings for IRAs, nor with the arguments developed in the central banks’ literature. It is an anomalous result, which again shows that central banks and independent regulatory authorities are, despite their similarities, quite different. How can these differences be explained? A first possibility is that central banks and independent regulatory agencies do not belong to the same

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Veto players

Figure 4.7 The formal independence of central banks as a function of veto players (predicted values) population, and that delegation to these two types of independent authorities follows completely different logics, but we have seen in Chapter 3 that the theoretical arguments are extremely similar. Second, it could be argued that the relevant distinction is not between central banks and independent regulators, but between sectors where credibility is an important problem and sectors where credibility is less central. Thus, it could be argued that central banks and utility regulators exhibit the same pattern, while other regulators are different. However, this hypothesis does not stand up to empirical analysis: the relevant distinction is between central banks on the one hand, and regulatory agencies on the other (see Gilardi, 2007). These differences between central banks and independent regulatory authorities remain a puzzle.

CONCLUSION In this chapter we have examined delegation to IRAs empirically by comparing the formal independence of regulators in 17 countries and seven regulatory domains. Regulators tend to be more independent in economic

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.8


0

.2

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Replacement risk

Figure 4.8 The formal independence of regulators as a function of replacement risk (predicted values) regulation (and especially in utility regulation) than in social regulation, which is consistent with the credibility hypothesis stating that delegation to independent authorities can be chosen so as to increase credible-commitment capacity. Second, delegation tends to be more extensive in countries characterized by frequent alternation between governments with different preferences, which indicates that formal independence is partly granted as a means to cope with political uncertainty. Third, the formal independence of regulators tends to be higher in countries with few veto players, which suggests that an institutional context protecting the status quo is to some extent a functional equivalent of delegation. Finally, we have noted that delegation to central banks exhibits surprisingly different patterns from that to IRAs, notably with respect to veto players and political uncertainty. These results shed considerable light on the logic of delegation within the regulatory state. However, they also give a partial picture. Most notably, the analysis has so far neglected the temporal and dynamic aspects of delegation to IRAs, and has focused exclusively on the ‘functional pressures’ for delegation (Thatcher, 2002a). In addition, the analysis has so far assumed that, although all countries have granted independence to at least some regulators, they have done so in isolation from each other, but this assumption

72


is not very realistic. It is likely that the delegation to IRAs in, say, Germany is not completely independent from delegation practices in the United Kingdom, for example. In other words, the interdependencies that exist among countries (the famous ‘Galton’s problem’) may lead to policy diffusion, and delegation to independent regulatory agencies may occur in the context of a diffusion process (Braun and Gilardi, 2006c; Simmons et al., 2006; Levi-Faur, 2005b). Furthermore, diffusion processes need not be very rational. Policies and institutions may spread because of their symbolic properties, their capacity to legitimize the actions of policy makers, or because they become taken for granted as appropriate solutions to given problems. Therefore, while the analysis of the formal independence of regulators has proceeded from highly rationalistic assumptions, these may need to be in part relaxed when studying the diffusion of the independent regulator model. To sum up, what is still missing is an account of how independent regulators have become a prominent new model in the 1990s (and not before or afterwards), how decisions to establish them have been taken not in isolation but rather in an interdependent diffusion process, and how the logic of delegation to IRAs can also be ‘social’ and not purely ‘functional’ (McNamara, 2002). These issues are explored in detail in the next two chapters, first from a theoretical point of view in Chapter 5, and then empirically in Chapter 6.

NOTES 1. The Bundeskartellamt’s independence score is 0.39, which is slightly above the average for competition authorities (0.37), but clearly below the average for economic regulators (0.52). 2. See for example, ‘Antonio Fazio proves hard to unseat’, The Economist, 8 September 2005; ‘Fazio’s folly’, The Economist, 24 November 2005; ‘Italian banking’, The Economist, 20 December 2005. 3. Conventionally, regulation is termed ‘economic’ when it deals with the price, entry, exit and service of an industry, and ‘social’ when it concerns non-economic issues such as health and safety (see e.g. Meier, 1985: 3). See also Chapter 2. 4. http://www.polisci.ucla.edu/tsebelis/main.htm. 5. Among the countries that have adopted the euro, the variance in central banks independence has decreased, while the mean has increased (both differences are significant at the 0.01 level).

5.

Interdependent delegation: the diffusion of independent regulatory agencies

INTRODUCTION In the age of globalization, the statement that countries are interdependent has become commonplace. This idea is, however, much older. In the social sciences it dates at least to 1889, when at an anthropology conference Sir Francis Galton criticized the work of a fellow scholar for not taking into account the possibility of reciprocal cultural influence among societies (Ross and Homer, 1976). Since then, ‘Galton’s problem’ has been used to indicate a technical problem that potentially afflicts all comparative studies: namely that the assumption that observations are independent from each other does not hold. This issue is treated in most methodology textbooks, although just in passing. In many cases, comparative researchers acknowledge the problem, but then move on as if it were not really important. So far we have done the same; in Chapter 4 we compared delegation to independent regulators in 17 countries and seven sectors by assuming that the formal independence of a regulator in one country and sector is not related to the formal independence of regulators in other countries and sectors.1 This assumption is abandoned in this chapter. The reason is not methodological but substantive. In effect, a consequence of interdependence is that policies can diffuse internationally. In other words, delegation to IRAs may have taken place in an interdependent process where this institutional form has diffused across countries and sectors. The pattern we saw in Figure 1.1 is a first indication that diffusion may have been at work, since S-shaped patterns, as we will see, are typical of diffusion processes. The diffusion of policies has been studied in several literatures, which point out that diffusion processes can be driven by different mechanisms and lead to different outcomes. Our main hypothesis, on the one hand, is that independent regulatory agencies have spread through emulation, that is, in a process where their symbolic properties have mattered more than their objective characteristics or their actual consequences on regulatory policies and outcomes. On the other hand, we will emphasize that the explanations 73

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we presented in the previous chapters for the formal independence of regulators can also be expected to be relevant for their spread. This chapter is structured as follows. The next section shows how S-shaped patterns can be linked to interdependent diffusion processes. In addition to diffusion, it discusses two related concepts: convergence and transfer. The following section examines two major literatures of diffusion in the social sciences: the diffusion literature in sociology, and the literature on the diffusion of policies in US states. We will then turn to the recent diffusion literature in political science, which emphasizes three principal mechanisms that can cause policies to spread internationally: learning, competition and emulation. Finally, we will discuss the relevance of these insights for delegation to independent regulatory agencies, and we will develop the hypotheses that will be empirically tested in the next chapter.

DIFFUSION, CONVERGENCE, TRANSFER A distinctive feature of many diffusion processes is that if we plot the cumulative share of adoptions of a given policy over time, an S-shaped curve results. Figure 5.1 shows an example of this pattern. Bars represent the share of new adoptions in each period, while the line indicates what proportion of actors has taken up the policy. In many cases, such a pattern of adoption is taken as prima facie evidence that a diffusion process was at work. At a superficial level, this is a trivial observation. It is obvious that at time t0 only a tiny fraction of actors have adopted the policy, while at time t50 all have done so. In this sense, the policy has certainly spread. At a deeper level, however, Figure 5.1 is consistent with a more subtle view of diffusion, namely one in which individual decisions are interdependent, and actors influence each other. This insight was propounded by authors such as Granovetter (1978) and Schelling (1978) in their threshold models of collective behavior, as well as in classic studies of the diffusion of innovations (Rogers, 1995; Mahajan and Peterson, 1985; Berry and Berry, 2007). In thresholds models, the decision to adopt a policy depends on two factors: the share of actors that have already adopted it, and individual thresholds. Thresholds are defined as the share of adopters that is requited for an actor to join the bandwagon. Granovetter’s (1978) model is about joining riots, and the theoretical justification of this definition is in terms of protection from sanctions: rioting is more risky for the first few protesters, which therefore need a strong motivation to initiate the movement, while it is considerably safer when a large part of the population has mobilized, at which point even moderates may be willing to join. But of course, as Schelling (1978: 96) points out, ‘[i]n some cases, it is not the number itself

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Figure 5.1

S-shaped diffusion curve

but some effect of the number that matters’. As we will see below, sociologists tend to interpret the effect of ‘numbers’ in terms of the social acceptance of a practice or policy. Regardless of the precise meaning of ‘numbers’, what is important here is that decisions depend not only on individual characteristics (thresholds), but also on the behavior of others. Choices are therefore interdependent, and practices diffuse. This can be seen by examining the data-generating process that is at the basis of the S-shape in Figure 5.1 (Mahajan and Peterson, 1985: 17–19; Berry and Berry, 2007: 226–8): Nt Nt Nt 1 bNt (L Nt1 ) Nt (bL 1)Nt1 bN2t1

(5.1) (5.2)

where Nt is the cumulative share of adopters, Nt is the share of new adopters at time t, L is the share of potential adopters at time t0, and b is a parameter that determines the speed of diffusion. This is a pure diffusion model: adoptions depend exclusively on the interaction of the number of prior adopters (Nt) and of the number of potential adopters (L – Nt1), and not at all on the characteristics of social actors. As

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Figure 5.1 shows, the result is a pattern where at the beginning of the process the number of adoptions is small, then increases up to a certain point, and then starts to decrease. The cumulative share of adoption that results follows an S-shape, which in this example is the consequence of a process that, by construction, is driven entirely by diffusion. Therefore, we can now better understand why, when S-shaped distributions are found, researchers tend to see them as preliminary evidence that a diffusion process is observed. In this model, the precise shape of the distribution depends on b: the greater its value, the steeper the curve, therefore the faster the diffusion process. This can be seen in Figure 5.2: the difference among the three curves resides in how much previous adoptions influence adoptions at time t, which is captured by b. In fact, estimating b is precisely what quantitative studies of diffusions do, as we will see. This discussion has emphasized that diffusion is driven by interdependence. Indeed, this is the definition of diffusion that we adopt:

0.2

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International policy diffusion occurs when government policy decisions in a given country are systematically conditioned by prior policy choices made in other countries. (Simmons et al., 2006: 787)

0

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Figure 5.2

S-shaped diffusion curves with different slopes

40

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1

This definition insists on the nature, not the outcomes, of the process. The distinction is important to understand the difference between diffusion and convergence. In effect, Figures 5.1 and 5.2 could very well be approached from the point of view of the final outcome that is shown, namely the fact that at the end of the process all actors have adopted the new policy. In this sense, these figures show that there is convergence. There is actually a sizeable literature that is interested precisely in this outcome (see for example Bennett, 1991; Heichel et al., 2005; Holzinger, 2006; Holzinger and Knill, 2005; Knill, 2005; Holzinger et al., 2007; Plümper and Schneider, 2007). Convergence is usually defined as ‘the tendency of societies to grow more alike, to develop similarities in structures, processes, and performances’ (Bennett, 1991: 215). The definition is straightforward, but the empirical identification of convergence is not simple. The literature distinguishes two types of convergence: sigma and beta.2 These concepts are borrowed from the growth literature in economics (Sala-i-Martin, 1996), but are useful also for the quantitative and qualitative study of policy convergence (Heichel et al., 2005: 831). Sigma convergence measures how the variance (or standard deviation) of policies changes over time; the more it decreases, the more units converge. This is illustrated in Figure 5.3, which, following Plümper and Schneider (2007), T2

T3

.6 .4 .2

Policy level

.8

T1

0

SD = 0.224

Figure 5.3

Sigma convergence

SD = 0.116

SD = 0.050

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.8

shows simulated data that have been constructed so that the mean remains the same in all periods, while the standard deviation decreases.3 The vertical axis shows the ‘level’ of a policy, and each circle represents a country (or any another relevant unit). It is intuitively clear that there is convergence: between T1 and T3, countries become more similar. In effect, we can see that the standard deviation of policy levels becomes smaller: it is 0.224 in Period 1, 0.116 in Period 2 and 0.05 in Period 3. In this case, the standard deviation permits to capture convergence. However, Figure 5.3 depicts a quite simple convergence process. In more complex and realistic cases, for example if convergence is conditional or if countries converge on several clusters rather than on a single level, sigma convergence incorrectly concludes that there is no convergence (Plümper and Schneider, 2007). The second approach is called ‘beta’ because convergence is measured through the coefficient of a regression of changes in the policy level on the policy level at the beginning of the process. The idea is that if there is convergence, then the level of adjustment should be related to the original position: the further a country is away from the mean policy (or from the level of convergence) at the start, the more it will adjust. Figure 5.4 illustrates this using the same simulated data as Figure 5.3. The horizontal axis shows the policy level at time 1, while the vertical axis shows the difference in T3-T1

–.8

–.4

Difference in policy level 0 .4

T2-T1

Fitted values 95% CI .2

Figure 5.4

.4 .6 .8 Policy level at T1

Beta convergence

Fitted values 95% CI 1

.2

.4 .6 .8 Policy level at T1

1

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policy levels between time 1 and, respectively, time 2 (left panel) and time 3 (right panel). The figure also shows the regression line and the corresponding 95 per cent confidence interval. Two points are noteworthy. First, in both cases there is a negative relationship between the policy level at time 1 and the difference with time 2 or 3, meaning that the further away a country is from the mean, the more it adjusts. This is consistent with the definition of convergence. Second, in the right panel the slope of the regression line is steeper, and the confidence interval is narrower, meaning that the relationship is stronger. Looking at Figure 5.3, we see that this makes sense, since there has been more convergence between time 1 and time 3 than between time 1 and time 2. Plümper and Schneider (2007) advocate this approach for the study of convergence, but warn that reliable results can be reached only if the convergence process is accurately modeled, which requires strong theory. What makes policies converge? Holzinger and Knill (2005) identify several mechanisms, which are listed in Table 5.1. The first is imposition: if a powerful actor has the capacity to force other actors to adopt a policy, convergence results. This mechanism is related to DiMaggio and Powell’s Table 5.1

Mechanisms of policy convergence

Mechanism

Stimulus

Response

Diffusion?

Imposition

Political demand or pressure

Submission

No

International harmonization

Legal obligation through international law

Compliance

No

Competition

Competitive pressures

Mutual adjustment

Yes

Lesson-drawing

Problem pressure

Transfer of model found elsewhere

Yes

Transnational problem-solving

Parallel problem pressure

Adoption of commonly developed model

Yes

Emulation

Desire for conformity

Copying of widely used model

Yes

International policy promotion

Legitimacy pressure

Adoption of recommended model

Yes/No

Independent problem solving

Parallel problem pressure

Independent similar responses

No

Source: Adapted with changes from Holzinger and Knill (2005: 780).

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(1991b) ‘coercive isomorphism’. International harmonization is a second mechanism. In this case, pressures for compliance come for international agreements that countries voluntarily adopt. Third, competition means that countries adapt to each other’s policies in order to attract resources, such as investment. While convergence can result from this process, the equilibrium level of policies can vary, and scholars have debated under what conditions ‘races to the bottom’ or ‘to the top’ are likely to result (Radaelli, 2004). Lesson-drawing means that policy makers face some problems, and look elsewhere for solutions. If a clearly better policy model exists and all countries adopt it, then there will be convergence. Transnational problem solving is another mechanism. Here many countries share similar problems, and common solutions are developed at the international level, which are then autonomously adopted in each country. Sixth, emulation means that for some reason a given policy model enjoys a higher status, and is consequently widely adopted. International policy promotion refers to cases where a given model is advocated by influential actors, and is ceremonially adopted to show that the appropriate policies have been put in place. Independent problem solving, finally, is a situation where many actors face the same problem and independently adopt the same solution, not unlike several people opening umbrellas at once when it starts raining. In this list of mechanisms we can note that only some are consistent with diffusion as defined above. Imposition, international harmonization, independent problem solving, and possibly also international policy promotion have nothing to do with diffusion, because they are not linked to the idea of horizontal interdependence. We will discuss diffusion mechanisms at length in Section 5.3. Finally, a literature that is related to both diffusion and convergence is that on policy transfer (see for example Dolowitz, 2000; Dolowitz and Marsh, 2000; Jacobs and Barnett, 2000; Radaelli, 2000; Stone, 2000, 2004; Greener, 2002; Lodge, 2003). Policy transfer is ‘the process by which knowledge about policies, administrative arrangements, institutions and ideas in one political system (past or present) is used in the development of policies, administrative arrangements, institutions and ideas in another political system’ (Dolowitz and Marsh, 2000: 5). This analytical framework is organized around six questions (Dolowitz and Marsh, 2000: 8–13): 1.

2.

Why do actors engage in policy transfer? A continuum is identified between voluntary adoption, which is linked to rational learning, and coercion, while in between are motives such as bounded learning and international pressures. Who are the key actors involved in the policy transfer process? Several actors matter, including politicians, bureaucrats and non-governmental organizations, both at the national and at the international level.

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3.

4. 5.

6.

What is transferred? Policies, of course, but also goals, instruments, and programs, which should not be collapsed into a single category (Dolowitz and Marsh, 2000: 12). From where are lessons drawn? The main distinction is between domestic and cross-national transfer. What are the degrees of transfer? Copying means that the transfer process is complete; emulation is limited to the ideas behind the policy; combinations refer to the fact that several distinct policies can be at the origin of an original mixture; and inspiration is a loose form of transfer where only the input comes from elsewhere. What restricts or facilitates the policy transfer process? The media, official reports, existing policies, and many types of personal contacts and networks can speed up or slow down the process.

We see that there are several overlaps among the concepts of diffusion, convergence, and transfer. However, there are also several important differences, notably with respect to the analytical focus, the dependent variable, the level of analysis, and the typical methodology employed. Table 5.2 summarizes them. The analytical focus of the diffusion literature is on policy change, the main hypothesis being that interdependence matters. In the convergence literature, the focus is on the outcome: to what extent do policies become more similar? In the transfer literature, the emphasis is on the process, that is, on how policies are transferred and how they are adapted. The dependent variable is the adoption of policies in the diffusion literature and changes in the similarity of policies in the convergence literature. In the transfer literature, it is in principle the adoption of policies, but as Dolowitz and Marsh (2000: 8) stress, ‘if one wishes to use policy transfer to explain policy outcomes, then one also needs to explain what causes policy transfer; so a full analysis would treat transfer as both a Table 5.2

Policy diffusion, convergence and transfer Policy diffusion

Policy convergence

Policy transfer

Analytical focus

Policy change

Outcome

Process

Dependent variable

Adoption of policies

Change in similarity of policies

Adoption of policies and transfer process

Level of analysis

Meso

Macro

Micro

Methodology

Mostly quantitative

Quantitative and qualitative

Mostly qualitative

Source: Adapted with changes from Holzinger, Jörgens and Knill (2007).

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dependent and an independent variable’. Thus, the transfer process is also something to be explained, and has the status of an intermediary variable. The level of analysis is clearly micro for policy transfer, since processes are unpacked, and clearly macro for convergence, because the focus is on the aggregate consequences of policy change, namely more or less similarity. In the diffusion literature, the units of analysis are countries (or regions or cities), but the focus is on each individual country and not on aggregate outcomes. Finally, with respect to methodology the diffusion literature relies predominantly on quantitative techniques and the transfer literature is overwhelmingly qualitative, while both methodologies can be found in the convergence literature. We have now clarified the distinctions among these three concepts and the respective literatures. The rest of this chapter will concentrate on policy diffusion. The next section offers an overview of the diffusion literature in two fields: sociology and American federalism.

POLICY DIFFUSION: AN OVERVIEW Diffusion in the Sociological Literature The diffusion of social practices has been a hotly debated topic in sociology for a long time. Strang and Soule (1998) make a distinction between ‘classical’ and contemporary ‘macro’ diffusion studies. The former were concentrated on the diffusion of various sorts of innovation, such as new types of corn or prescription drugs. Rogers’ (1995) widely cited book reviews and synthesizes this literature. More recent research, however, has concentrated on diffusion processes in organizations and social movements. This literature ‘examines the spread of behavioral strategies and structures rather than technical innovations [and] emphasizes adoptions by social collectivities more than individuals within those collectivities’ (Strang and Soule, 1998: 268). In the rest of this section we will concentrate on studies of organizational diffusion. Sociologists identify two sources of organizational change: internal dynamics and functional needs (such as coordination and control) on the one hand, and the broader institutional environment, which defines appropriate practices, on the other (Tolbert and Zucker, 1983: 25–6). Similarly, the survival of organizations can be linked either to internal or to external factors (Singh et al., 1986). The point made in the sociological literature is that the latter are much stronger than the former. March and Olsen (1983) have argued that administrative reorganizations are not motivated by increasing efficiency, though this is the rhetoric that accompanies them.


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Rather, they are the expression of social values that reward action, efficacy, and rationality (March and Olsen, 1983: 292). Consequently, the central argument in the sociological literature is that the adoption of innovations is not related to their functions, and is independent from their effectiveness or efficiency (Meyer and Rowan, 1977: 340, 348, 352; Fligstein, 1985: 381; Zucker, 1987: 453; Kraatz and Zajac, 1996; DiMaggio and Powell, 1991a; Ruef, 2000: 659; Guler et al., 2002: 210). Some authors argue that efficiency can even decrease as a result of the adoption of innovations (Zucker, 1987: 445). There are two related explanations for the fact that practices can be adopted independently from their functions. Both are linked to the constitutive role of culturally legitimate models of organization (Clemens and Cook, 1999: 442), and concentrate on what Scott (1995: 34–45) calls the ‘cognitive pillar of institutions’, which is the fact that rules ‘constitute the nature of reality and the frames through which meaning is made’ (Scott, 1995: 40). As Parsons (1956) stressed, organizations tend to conform to the values and norms that are institutionalized in the society. The first explanation is that the adoption of innovations is motivated by a desire for legitimacy, while the second contends that, over time, some practices become taken for granted as appropriate, and alternatives are not even taken into account. These two explanations have been developed in separate literatures (sociological institutionalism and organizational sociology) that have become intertwined since the mid-1980s (Singh, 1993: 464; Scott, 1995: 108–9). As a result, the argument is now relatively coherent, despite some significant differences. According to Meyer and Rowan (1977: 349), formal structures are chosen by decision-makers to show that they are acting properly and adequately, so that their conduct is above question. The establishment of formal structures is a ceremony whose goal is the gaining of legitimacy, and the diffusion of these structures is a direct result of this social process. This argument is similar to March and Olsen’s (1984; 1989) ‘logic of appropriateness’, where decisions are taken not to accomplish goals, but to show that appropriate objectives are pursued in the appropriate way. In contemporary societies, practices become legitimate in the context of the ‘rationalized modern environment’ (Meyer, 1994: 31), which creates organizational and policy models through the institutionalization of rules that ‘define the meaning and identity of the individual and the pattern of appropriate economic, political and cultural activity engaged in by those individuals’ (Meyer et al., 1994: 9). Following Max Weber, the rationalization that characterizes the broad institutional context of Western society is defined as ‘the structuring of everyday life within standardized impersonal rules that constitute social organization as a means to collective purposes’

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(Meyer et al., 1994: 20). Only practices that meet these criteria are considered legitimate; therefore, organizations and policies will be designed so as to be consistent with these principles, regardless of their consequences in terms of effectiveness and efficiency. The implication is that to explain the specific form of policies and organizations, functional pressures are not as important as conformity with the broad institutional environment. While many aspects of ‘rationalized environments’ shape legitimate practices, including the nation-state, science, and the professions (Meyer, 1994: 36–9), the major forces are global. Meyer et al. (1997a) argue that ‘worldwide models’ impose pressures on most domains of social life, including business and politics. These arguments have been empirically examined in several crossnational studies showing how integration in the ‘world society’ (Meyer et al., 1997a) influences the evolution of a wide range of practices. ‘Rationalized governance’, measured in terms of corruption controls, rule of law, bureaucratic quality, and favorable investment profile, have diffused not because of domestic factors, but in relation to embeddedness in the international system, which is associated with greater exposure to legitimized models of social action (Drori et al., 2006). In the environment field, the emergence of international environmental associations, treaties and intergovernmental organizations, has been partly driven by the ‘rationalization of nature in worldwide discourse’, measured by the cumulative number of scientific unions, of science-oriented international nongovernmental associations, and of nation-states with at least one national park (Meyer et al., 1997b). Higher education has followed a similar pattern: rates of enrolment in college and university programs have grown following the institutionalization, at the international level, of a societal model emphasizing the development of human capital, and have risen more rapidly in countries that are well-integrated in international networks (Schofer and Meyer, 2005). Analogous results have been found in several other fields, including women’s suffrage rights (Ramirez et al., 1997), health organizations (Inoue and Drori, 2006), and ministerial structures (Kim et al., 2002). To sum up, the first explanation for the irrelevance of functional pressures in the spread of policies is that what matters is congruence with socially legitimate models that have been constructed as appropriate. The second explanation argues that over time some practices become ‘taken for granted’ while others disappear from the ‘domain of the possible’, regardless of the functions they perform. As Hannan and Carroll (1992: 34) explain, a practice becomes taken-for-granted ‘when there is little question in the minds of actors that it serves as the natural way to effect some kind of collective action’. This argument originates in the organizational ecology literature (see for example Hannan and Freeman, 1977; Singh and


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Lumsden, 1990; Amburgey and Rao, 1996), which applies an analogy with biological populations to the study of organizations. More precisely, it investigates ‘how social conditions influence (a) the rates of creation of new organizational forms and new organizations, (b) the rates of demise of organizational forms of organizations, and (c) the rates of change in organizational forms’ (Singh and Lumsden, 1990: 162). The link with biology explains why the ‘creation’ and ‘demise’ of organizations are often called ‘births’ and ‘deaths’ (see also the concept of ‘organizational mortality’), and are the central variables of interest in empirical analyses. In this literature, populations are ‘aggregates of organizations’ which are ‘alike in some respect’ (Hannan and Freeman, 1977: 934). The definition is not very precise, which means that ‘identifying a population of organizations is no simple matter’ (Hannan and Freeman, 1977: 934; see also Singh, 1993: 467). The most contentious point in this approach is how the effects of takenfor-grantedness can be measured. It is conventionally argued that takenfor-grantedness is crucially affected by organizational density, defined as the number of organizations in a given population (Hannan and Freeman, 1977; Carroll, 1984; Hannan and Carroll, 1992; Singh and Lumsden, 1990; Amburgey and Rao, 1996; Aldrich, 1999; Ruef, 2000). The argument is that widespread identification and recognition are preconditions for a status in which an organizational form is taken for granted, and depend primarily on the number of organizations that have already taken it up. In other words, a practice cannot be taken for granted if it is rare. In addition, organizational density is also likely to affect the extent to which a given form is seen as an ‘appropriate’ solution to a given problem, and the extent to which it is ceremonially adopted to increase legitimacy (Meyer and Rowan, 1977). Organizational density is expected to have an impact on foundings, that is, on the number of similar organizations created in a given period. The relationship between the total number of organizations in the population and the number of new organizations is expected to have an inverted U-shape, with the number of foundings initially rising with increasing density, and then declining (Carroll and Hannan, 1989a; Ranger-Moore et al., 1991; Baum and Oliver, 1992). When there are few organizations in the population, each new organization enhances the legitimacy of that form. When it has become prevalent, however, its legitimacy is already high and thus further proliferation does not have much effect on the extent to which it is taken for granted. At the same time, as the number of organizations rises, each new organization increases competition for resources and discourages further creations. Thus, high density should be negatively associated with new creations, and the whole relationship between the total number of organizations and the number of newly created organizations

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assumes an inverted U-shape (Singh, 1993: 465). This account is consistent with the pattern shown in Figure 5.1. Given its simplicity, it is not surprising that this conceptualization of taken-for-grantedness has been extensively debated. A critique is that the measure is only indirectly related to the concept (Baum and Powell, 1995; Petersen and Koput, 1991; Singh, 1993: 470–1), or is not even a good proxy (Zucker, 1989). However, a milder view is that density captures only one aspect of legitimation processes, namely taken-for-grantedness, but neglects other important aspects such as the legitimacy induced by congruence with the broader institutional context (Baum and Powell, 1995), which could be better captured by ‘relational density’ measures emphasizing the links between organizations and the institutional context (Baum and Oliver, 1991, 1992, 1996). Hannan and Carroll (1995; Carroll and Hannan, 1989b; Hannan et al., 1991) have defended density-based measures of taken-for-grantedness on pragmatic grounds: they allow researchers to carry out extensive longitudinal and cross-sectional comparisons. This is particularly important for these authors since they are attempting to develop a general theory, one that applies ‘to all kinds of populations in all kinds of contexts’ (Carroll and Hannan, 1989b: 546). Whether this is a reasonable objective is of course debatable; to their credit, it is worth noting that the relationship between density and adoptions is one of the most robust results of the sociological diffusion research. The number of empirical tests of these hypotheses is impressive. Support for the main arguments has been found in fields as diverse as grievance procedures for employees (Edelman, 1990), civil service reforms (Tolbert and Zucker, 1983), corporate structures (Fligstein, 1985), trade unions (Hannan and Freeman, 1987; Hedström, 1994), political parties (Hedström et al., 2000), newspapers (Delacroix and Carroll, 1983; Carroll and Hannan, 1989a), day-care centers (Baum and Oliver, 1991, 1992, 1996; Baum and Singh, 1994), ISO 9000 quality certificates (Guler et al., 2002), financial firms (Haveman, 1993), women and minority groups (Minkoff, 1994), financial reporting practices (Mezias, 1990), health care organizations (Fennell, 1980; Ruef and Scott, 1998; Ruef, 2000), radio formats (Greve, 1996), public schools (Rowan, 1982), banks and life insurance companies (Ranger-Moore et al. 1991), automobile manufacturers (Hannan et al., 1995), and voluntary social service organizations (Singh et al., 1986), among others. One of the few studies that does not find support for the idea that the spread of practices is driven by adaptation to the broader institutional environment is that by Kraatz and Zajac (1996), who reintroduce the functionalist argument that change derives from adjustment to the ‘technical


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environment’ (consumer preferences, competitive conditions, technology, etc.). These authors examine private liberal arts colleges in the US, which in the early 1970s faced considerable pressures, such as a shift in the priorities of potential students (economic rather than humanistic objectives), increased emphasis on specialized skills in the labor market, and a demographic decline that reduced the number of incoming students. According to institutionalist theory, these pressures should not lead to widespread change because this would not be consistent with dominant norms in the field, which emphasizes traditional ideas of humanistic studies over professionalizing the study curricula. By contrast, Kraatz and Zajac (1996) find that functional pressures were strong determinants of the introduction of professionalizing courses in humanistic curricula. To sum up, the sociological literature emphasizes that practices diffuse because of their symbolic properties, regardless of the functions they perform. New policies or organizational forms are taken up because they enhance the legitimacy of the adopters, or even because after a certain point their appropriateness is no longer questioned. As we will see below, other approaches generate different arguments on the mechanisms driving diffusion processes. Diffusion in the Literature on American Federalism Within political science, diffusion studies have long been confined to the literature on American federalism (Berry and Berry, 2007: 224). Policy diffusion among US states has been studied for a long time (Walker, 1969; Gray, 1973), and for good reasons: one of the main justifications for decentralization is that it allows states to experiment with new policies, and that successes will spread, while failures will be abandoned. In this optimistic view, states work as ‘policy laboratories’. The literature has been boosted by Berry and Berry’s (1990) influential work of the diffusion of lotteries, which introduced event-history analysis as the standard method for the quantitative analysis of policy diffusion, as well as a ‘unified model’ integrating four categories of explanatory factors: the motivation of policy makers, resources and obstacles, other policies and external factors (Berry and Berry, 2007: 237–40). ‘Motivation’ is a first set of variables that includes the preferences of policy makers, the evaluation of the status quo and of the pressures for change, and the like. ‘Resources and obstacles’ are factors that could prevent the adoption of the policy, such as the level of economic development, administrative capacity, the professionalism of the legislature and political institutions, in addition to factors that can help overcome these obstacles. The presence or absence of other policies is important because the adoption of a new policy can be influenced by its

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relationship to the status quo. For instance, the new policy can complement or substitute for the status quo. There could also be preconditions for the adoption of a policy. Finally, ‘external factors’ are linked to diffusion, that is, to the idea that the adoption of a policy in a given state does not only depend on the characteristics of this state, but also on the practices of other states. An important question is how these ‘external effects’ are conceptualized and operationalized. Quite surprisingly, until recently this literature has relied on a rather simple indicator, namely the policies of neighboring states, or some variation of this measure (see for example Berry and Berry, 1990, 1992; Berry et al., 2003; Volden, 2002b; Bailey and Rom, 2004; Boehmke and Witmer, 2004; Mooney and Lee, 1995). While this operationalization is consistent with the idea that the practices of others matter, it does not really permit unpacking the diffusion process and identifying the mechanisms that drive it, and has actually been used as a measure of both learning and competition. (Mooney, 2001). As Berry and Baybeck (2005: 505) put it, ‘[r]egardless of whether scholars point to learning or competition (or both) to justify their models of interstate influence, the vast majority of empirical tests of such models have relied on a similar specification of influence – one that assumes that states are affected equally by all their neighbors, and unaffected by more distant states.’ Although Berry and Baybeck (2005) refine these measures, their approach is to develop more detailed measures of geographical proximity. The latter are however not abandoned and remain at the core of their diffusion indicators; they even argue that using the policies of neighboring states as measures of learning is ‘quite reasonable’ (Berry and Baybeck, 2005: 505). This approach is exemplified in studies that investigate whether competition among states leads to a race to the bottom in welfare policies. This argument has two components. First, the ‘magnet hypothesis’ states that poor people migrate from low- to high-benefit states in order to take advantage of better coverage. Consequently, the ‘competition hypothesis’ is that states are influenced by the policies of their neighbors: states compete with one another to have less generous policies, so that poor people do not gravitate to those states. To test these arguments, scholars estimate the effect of the policies of neighbors on state policies, controlling for a wide range of state-level influences. Modeling strategies vary but follow the same basic idea. Volden (2002b) finds that the probability that a state increases welfare benefits increases with the share of surrounding neighbors that does the same, which means that although there is no race to the bottom, states fear becoming ‘welfare magnets’ and increase the generosity of their policies only if their neighbors do likewise. Berry et al. (2003) measure competition through the ratio of a state’s generosity to the average in neighboring states,


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and conclude that states react to decreases in generosity levels in neighboring states, but only with small adjustments. Finally, Bailey and Rom (2004) use the percentage difference between a state and its neighbors’ generosity as an indicator of competition, and find evidence of interstate competition. As we see, scholars have tended to employ the policies of neighbors as proxies for competition and sometimes also for learning, although it is a rather simple measure that is not directly related to the theoretical concepts. A significant improvement in this domain is due to Volden (2006). His approach is to identify the factors that are more or less mechanically related to the relevant outcome, estimate a model on this basis, and then compare predicted and actual values. If in a given state actual values are bigger, then this state has performed better than it should have, given the model, and can be considered a success. In the opposite case, states can be considered failures. Concretely, Volden (2006) examines the diffusion of Children’s Health Insurance Programs. He identifies the reduction in the uninsured rate among poor children as the relevant outcome of the policy, regresses this measure on eligibility standards, which have a direct (though theoretically quite uninteresting) influence on insured rates, and then codes as successes the states in which actual uninsured rates were lower than those predicted by the model. This information is then used in the analysis instead of the simpler measures commonly employed. In addition to this new operationalization of learning, Volden (2006) has introduced a new methodological approach: dyadic event-history analysis. While the standard event-history analysis introduced by Berry and Berry in the study of diffusion takes state-years as units of analysis, in the dyadic approach units are pairs of states (for example, New York-Pennsylvania), in which the first state is the potential adopter of a policy, while the second is the potential sender. The advantage is that one can include in the analysis variables for both the first and the second states, and also for the relationship between the two. In this context, Volden (2006) analyses whether the policies of successful states are more likely to be adopted in other states, and finds that they are. This is stronger evidence that states learn from one another than are the findings of previous studies that rely on simpler and less effective measures of learning. In addition to this study, the literature on diffusion in the states has recently been ‘upgraded’ by a series of related works. Building on his innovative approach, Volden has explored various facets of learning, such as how learning interacts with other factors (Volden and Cohen, 2006) and whether policies are more likely to be abandoned if they have failed in other states (Volden, 2007). In addition, Shipan and Volden (2006) have moved beyond the assumption that diffusion is horizontal (policies diffuse among units such as states or cities that are at the same level) and have shown that

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there are also bottom-up effects: the adoption of policies in cities affects policies at the state level. In sum, the literature is becoming richer and more sophisticated, at the theoretical, methodological and empirical levels.

THE NEW DIFFUSION LITERATURE IN POLITICAL SCIENCE In the past few years, a series of works have built on the sociological and American federalism literatures and have brought a new perspective to the study of policy diffusion in political science (see for example Simmons et al., 2006; Simmons and Elkins, 2004; Elkins and Simmons, 2005; Elkins et al., 2006; Levi-Faur, 2005b; Braun and Gilardi, 2006c; Meseguer and Gilardi, 2007; Meseguer, 2004, 2006a; Jahn, 2006; Swank, 2006; Lee and Strang, 2006; Weyland, 2005). The hallmarks of this new literature are its quantitative approach, its emphasis on the mechanisms that drive the diffusion of policies, and its focus on international diffusion processes. The attention is not restricted to policies: several studies examine the diffusion of institutions (see for example Gleditsch and Ward, 2006; Gilardi, 2005b; Jordana and Levi-Faur, 2005). From the sociological literature, these works have borrowed the insight that policy choices are interdependent, that this interdependence makes them spread, and that the symbolic properties of policies can be very important for their adoption. The literature on American federalism has inspired the use of event-history analysis as the method of choice (which is also prevalent in the sociological literature), as well as the operationalization of diffusion effects in terms of (geographical) proximities. On this basis, scholars have developed a more theoretically and methodologically sophisticated approach to the study of diffusion processes. At the theoretical level, studies take several distinct diffusion mechanisms into account. According to Hedström and Swedberg (1998: 7), ‘a mechanism can be seen as a systematic set of statements that provide a plausible account of how [two variables] are linked’. Following the definition of diffusion presented earlier, diffusion mechanisms are systematic statements that provide a plausible account of how the policies of a country are influenced by those of other countries. The main diffusion mechanisms cited in the literature are learning, competition, and emulation. Scholars have developed methodologically innovative ways of measuring diffusion effects, which move beyond the simple ‘neighbors’ approach. Spatial econometric techniques rely on a geographical analogy, but are by no means limited to geographical proximities: they are flexible tools that can account for all sorts of theoretically interesting proximities, such as trade or communication patterns (Beck et al., 2006; Franzese and Hays,


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2007). On the one hand, the operationalization of learning has been improved, as will be discussed below. On the other hand, the literature still suffers from strong homogenizing assumptions: many studies assume that diffusion processes tend to be similar across countries, policies and over time. In this respect, the sociological literature has much to teach, since it emphasizes how different practices diffuse in the same communities, and, finally, how causal processes evolve as diffusion unfolds. Most of the recent political science literature does not take this kind of heterogeneity into account (Meseguer and Gilardi, 2007). What are the typical results found in this literature? First, the null hypothesis is consistently rejected: policy choices are not independent of one another, and there is therefore diffusion. This is an unambiguous and consistent result in all studies. At the same time, the nature of diffusion processes is still not well understood. Many studies explore only a single diffusion mechanism, and some rely on simple indicators that makes it difficult to draw strong conclusions. However, the standards are rising, and better measures have been introduced. As an illustration, we can briefly examine Simmons and Elkins’ (2004) study of the diffusion of financial liberalization around the world. In addition to several domestic factors, they include several measures of interdependence. Spatial lags are used to operationalize the influence of trade and capital competitors, as well as of communication networks and cultural similarities. In addition, the policies of high-growth countries are used as an indicator of learning, and the average policy in all countries as a measure of global norms. Results show that interdependencies matter, and foreign economic policies have diffused internationally, particularly as a result of competition and communication among cultural peers. This approach is at the basis of most of the studies in this literature. Theory and methods have been steadily improved. For example, Elkins et al. (2006) and Lee and Strang (2006) have introduced more refined measures of learning, while Swank (2006) examines the conditional effects of diffusion. To sum up, this literature makes a strong case for the importance of interdependence and for the need to consider several diffusion mechanisms. In the following subsections we will see how these mechanisms are defined and how they can be integrated into a coherent framework. Rational Learning Learning can be defined as the process whereby the experience of others is used to estimate the consequences of policies. The effects of an existing policy can be determined by looking at one’s own experience: although the assessment is not necessarily straightforward, the experience of others is

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not needed. By contrast, when policy makers consider the adoption of a new policy, they are interested in estimating its likely consequences, but their own experience is useless: the reason why they want to know what will happen if the policy is adopted is precisely that they do not have it yet. Here the experience of others can be useful: if some countries have already adopted the policy, then their experience can be used to estimate its consequences. For example, imagine a government with tight labor-market regulation that wishes to lower the unemployment level. If the unemployment rate is consistently high, this outcome can be attributed to the existing legislative framework. The performance of other countries with similar regulations might be taken into account, but it is possible to reach a conclusion also without looking abroad. To solve this problem, policy makers may consider increasing the flexibility of the labor market. However, the consequences of this reform will be uncertain: will the unemployment level drop? And what will be the consequences in terms of social justice? In order to answer these questions, domestic experience cannot be used, since the prospective policy is not in place. Nonetheless, if some countries have less stringent labor-market regulations, their experience could be helpful. The experience of others can be taken into account in several ways, and the level of rationality can vary. While in the next section we will focus on a bounded rationality version of learning, here we discuss the fully rational flavor. Rational learning is best conceptualized in Bayesian terms (Meseguer, 2004, 2006a, 2006b; Breen, 1999). In the rational approach, policy-makers are assumed to have some beliefs on the effects of a policy and to update them using all available information and Bayes’ rule, which is a statistical law about the relationship between conditional probabilities. While the technical aspects of this idea are a bit complicated, the intuition behind it is simple. At any given period, policy makers have some beliefs on the consequences of a policy, but these views can change if empirical evidence shows otherwise. For instance, a government may think that loose labor-market regulation is linked to lower unemployment levels, but may change its mind if the experience of others goes against this view. In other words, the government’s beliefs are updated through the consideration of empirical evidence. Rational (Bayesian) learning assumes that the updating process has the following characteristics. First, all available information is taken into account without bias. Second, policy makers are sensitive to the variation of results, and not only to their mean. In other words, the experience of others matters more if it is consistent than if it is not. For example, if the average unemployment level of countries where the labor market is flexible is low, but the variance is high, then the experience of these countries is only moderately useful: unemployment levels vary considerably in this group of


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countries, although on average it is low. By contrast, if these countries have consistently low unemployment, then this is a stronger indication that looser regulations help fight unemployment. Third, size matters. That is, evidence on the link between regulations and unemployment is more reliable if it comes from a large sample, while information from small samples is discounted. Fourth, the strength of prior beliefs similarly matters. On the one hand, if a government is highly ideological it will not change its mind, regardless of the amount of evidence disproving its views. On the other hand, when policy makers do not have strong a priori ideas on the policy, then learning is much more influential. Finally, unless they are very strong, beliefs tend to converge on values that correspond to empirical evidence, and as a result most policy makers choose the same, most effective policy (assuming of course that they hold the same objectives). Rational learning is therefore highly desirable from a normative point of view. It appears clearly that this theory of learning makes strong assumptions about the rationality of actors. Although it has not been extensively tested, some studies have found supportive evidence, notably for the diffusion of economic policies such as trade openness, public-sector privatization, and the conclusion of agreements with the International Monetary Fund (Meseguer, 2004, 2006b, 2006a). In empirical work, a crucial but difficult question is the identification of relevant outcomes: what do policy makers learn about? In many cases, policies can have multiple consequences, whose relevance can vary across countries. We will come back to these issues in the concluding chapter. Bounded Learning Bounded learning is a bounded rationality version of rational (Bayesian) learning (Meseguer, 2006b; Weyland, 2005). While rational learning assumes that actors use all available information efficiently, experimental psychology has shown that this is not the way human cognition works (Tversky and Kahneman, 1974; Kahneman et al., 1982; Kahneman and Tversky, 2000). People try to gather relevant information from the observation of the behavior of others, but rely on ‘cognitive shortcuts’ such as representativeness, availability and anchoring (Tversky and Kahneman, 1974; McDermott, 2001; Weyland, 2005). Representativeness refers to the process through which people establish linkages between phenomena by evaluating the degree to which one is representative of or similar to the other. This means that people tend to draw clear conclusions from weak evidence (Weyland, 2004a). For example, people tend to assess the probability that a person is engaged in a particular occupation by determining the degree to which his or her description,

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or appearance, corresponds to the stereotype of the occupation. This method can lead to serious misevaluations because it neglects several factors that affect the objective probability, such as prior probability, the reliability of the evidence, and sample size (Tversky and Kahneman, 1974). An example is the ‘gambler’s fallacy’, where it is wrongly expected that in each short segment of a sequence of coin tosses the proportion of heads is close to 0.5, while this only holds over the whole sequence (Tversky and Kahneman, 1982b: 24). A consequence of this phenomenon is the tendency for policy makers to see a long-term trend in a limited sequence of data, or to generalize from a narrow set of observations (Weyland, 2004a, 2005). More generally, people tend to find patterns where none exist, like in the case of the commonly invoked, yet spurious, association between arthritis pain and weather (Kahneman and Tversky, 1982: 37; Redelmeier and Tversky, 1996). Representativeness is clearly incompatible with Bayesian learning, where, for example, sample size matters in the formation of posterior beliefs. Second, availability is the process through which ‘people assess the frequency of a class or the probability of an event by the ease with which instances or occurrences can be brought to mind’ (Tversky and Kahneman, 1974: 1127). An example would be determining the likelihood of getting cancer by counting the number of cases of cancer among one’s acquaintances. Availability also means that the evaluation of the risk of an activity, for instance, is affected by the ease with which its dangers can be imagined. This process can introduce several biases in judgments, because instances which are more easily retrievable or imaginable, for example because of familiarity, tend to be perceived as more numerous or more frequent than they actually are. Availability is the reverse of the mechanisms through which frequent repetitions strengthen associative bonds in memory; in availability, the strength of an association is the basis for the assessment of frequency, or in other words the probability of an occurrence (Tversky and Kahneman, 1982a: 164). An expression of availability in political diffusion processes is the fact that countries tend to focus on the experience of their neighbors and neglect more distant countries (Weyland, 2004a, 2005). The availability heuristic is thus at odds with Bayesian learning, which assumes a use of information consistent with statistical laws, and particularly the consideration of all relevant information. Anchoring, finally, is the process by which people make estimates by adjusting an initial value. The adjustment will typically be insufficient, meaning that the estimate will remain related to the initial value, even when this does not convey relevant information. In an experiment, people were required to estimate the percentage of African countries in the United Nations (Tversky and Kahneman, 1974). They were first asked if they


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thought that the percentage was larger or smaller than a number obtained by spinning a wheel of fortune in their presence. They then had to give an estimate of the proportion. The estimate was extremely sensitive to the random starting point: when it was 10 per cent, the median person estimated a proportion of 25 per cent, while when it was 65 per cent, the median answer was 45 per cent. This means that external information has a bigger impact on judgment than it should. Similarly, the way a problem is framed can have dramatic consequences on decisions. People switch from risk-averse to risk-taking attitudes if a given problem is framed so that the accent is put on losses rather than gains (Tversky and Kahneman, 1981). In an experiment, subjects were asked if, in the context of a disease that is expected to kill 600 people, they would prefer a drug saving 200 people for sure or another drug that saves all 600 people with a probability of 1/3 but save no one with a probability of 2/3. When the question is framed in this way, with an accent on gains, people tend to choose the first, least risky option. However, if the choice is between a drug that will kill 400 people or another drug that will save everybody with a probability of 1/3 and kill everybody with a probability of 2/3, then the second option appears preferable, although the problem is identical in the two cases. In political diffusion processes, one effect of anchoring could be that foreign models are adopted without the necessary changes (Weyland, 2004a, 2005). Again, this heuristic device is incompatible with rational learning, where the use of the new information is unbiased. When these cognitive heuristics are at work, learning is much less effective than in the Bayesian view. As Kahneman and Tversky (1982: 32) put it, ‘apparently, people replace the laws of chance by heuristics, which sometimes yield reasonable estimates and quite often do not’. Actors do try to glean new information from the experience of others, but use cognitive shortcuts rather than Bayes’ rule to update their beliefs. An implication is that while in Bayesian learning all relevant information is used to update beliefs rationally, while in bounded learning only some relevant information is gathered and used through such cognitive shortcuts as representativeness, availability and anchoring. According to Weyland (2004b; 2005), this results in a central role for policy models, which he defines, by analogy with Kuhn’s concept of scientific paradigm, as ‘the prescriptive condensation of a new “paradigm” in one policy arena’ (Weyland, 2004b: 8). Like scientific paradigms, policy models tend to arise in periods of crisis, when problems do not find adequate solutions in established practices. They embody a comprehensive new worldview that contributes to broad goals, and of which the specific policy application is only an aspect. Models are more easily adopted if they have a score of success, but this is not necessary, as their appeal derives more from the hopes and expectations they

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raise than from the achievements they have already reached (Weyland, 2004b: 10). Weyland (2004b: 11–12) also stresses two ‘contextual conditions’ that favor the adoption of policy models, both linked to their origins. First, models are more likely to be embraced if they come from a country with a high status, which can derive from more advanced social, political and economic development, historical and cultural tradition, or leadership in foreign policy. Second, models are more appealing to a country if they come from countries with which they share characteristics and needs. Cultural and historical links ease communication, while (perceived) similarities in economic, political and social structures suggest that a model can be successfully applied. When these two features are not present, models may nevertheless spread if they are promoted by third parties, especially international organizations. More generally, bounded learning suggests that governments are influenced by a reference group of ‘significant others’, which can be defined in many ways but should include both ‘similar’ and ‘proximate’ others (Marsden and Friedkin, 1993). The empirical problem is of course how such reference groups can be identified. Common proxies in quantitative analyses are religion, language and colonial legacies (see for example Simmons and Elkins, 2004). Competition Competition means that ‘governments act strategically in order to attract economic activity’ (Simmons and Elkins, 2004: 173). It is a mechanism of diffusion because the choices of one government depend in part on the choices of other governments: policy makers are strategically interdependent. At its simplest, competitive independence has the structure of a prisoner’s dilemma game, where cooperation is the Pareto-optimal outcome, but competition is the equilibrium (Lazer, 2001). Table 5.3 illustrates the problem with the example of tax policy (Hallerberg and Basinger, 1998; Basinger and Hallerberg, 2004; Swank, 2006). Both governments want to Table 5.3

Tax competition as prisoner’s dilemma Country B

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maintain a certain level of taxation in order to finance their policies. However, economic actors are sensitive to the level of taxes, and choose the country where they are lower. If both governments can agree to select high taxes, then the outcome is socially optimal, as the two countries maintain both their investment and taxation levels. However, each country is tempted to set taxes a bit lower than the other one, which would attract additional investment and resources. Moreover, the worst outcome is having high taxes when the other country does not. If both governments follow this reasoning, the equilibrium is that the two countries have low levels of taxation, although this is a suboptimal outcome for both. This is clearly a highly stylized simplification, but the important point is simply that the tax policy chosen by Country A depends clearly on the policy chosen by Country B, and vice versa. Competition is therefore a diffusion mechanism. Competition is an important phenomenon beyond tax policy. There is notably a large literature on regulatory competition (see for example Genschel and Plümper, 1997; Radaelli, 2004; Holzinger and Knill, 2004; Lazer, 2001). While theoretical expectations, as we have seen, are races to the bottom, these actually seem quite rare, and in some cases ‘races to the top’ are even possible. An example is the ‘California effect’ in environmental regulation, where countries converge on stricter environmental standards to gain access to important markets in which tight regulations are in place (Vogel, 1997; Potoski and Prakash, 2004; Prakash and Potoski, 2006). The main conclusion of the literature is that while regulatory choices are interdependent, outcomes are likely to be more complex than simple convergence, either at the bottom or at the top. On the one hand, since competition is a suboptimal outcome, there will be attempts to coordinate policies at the international level. The effects of regulatory competition therefore depend on how cooperation efforts unfold, and on whether competition precedes competition, or the other way around (Holzinger and Knill, 2004). In addition, competition is only a diffusion mechanism among others, and should therefore be put in the broader context of how policies spread internationally (Radaelli, 2004: 10–12). More generally, scholars have warned that models of regulatory competition are in many cases too simplistic (Radaelli, 2004). These qualifications, however, do not undermine the basic point, namely that governments take into account the policies of other countries, and that competition may under some circumstances cause international policy diffusion. As we have seen, empirical evidence for the presence of competition effects is mixed for regulatory policies, but is considerably stronger for economic policies. Simmons and Elkins (2004) have shown that decisions to liberalize or restrict current accounts, capital accounts, and exchange rates

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regimes have been influenced by the policies of trade and, especially, capital competitors. Similarly, bilateral investment treaties are more likely to be signed if competitors have already done so (Elkins et al., 2006), and liberal tax policies have spread because countries have followed the policies of competitors (Basinger and Hallerberg, 2004), and of the United States in particular (Swank, 2006). Emulation Emulation is a general term that covers the diffusion mechanisms developed in the sociological literature that we discussed on pp. 82–7. The common denominator of these mechanisms is that the symbolic aspects of policies outweigh their actual consequences. In a political context, we can distinguish three mechanisms linked to this idea: norms, symbolic imitation, and taken-for-grantedness. Norms define appropriate behavior for actors with a given identity when they find themselves in a given context (Finnemore and Sikkink, 1998: 891). They emerge through shared socialization and interaction in networks, which lead actors to understand problems in similar ways and to develop similar solutions. International organizations can play an important role, both actively as ‘teachers of norms’ (Finnemore, 1993) and passively by providing and structuring forums where policy makers can meet and develop common understandings of the world (Armingeon, 2004). Second, symbolic imitation is the idea that policies are adopted not to solve problems, but as ceremonies to show that the appropriate measures have been taken and to acquire legitimacy and protection from criticism (Meyer and Rowan, 1977; March and Olsen, 1983). Of course, the policies that will achieve these objectives are those that have been constructed as appropriate. Central banks are a case in point: ‘governments choose to delegate not because of narrow functional benefits but rather because delegation has important legitimising and symbolic properties which render it attractive in times of uncertainty or economic distress’ (McNamara, 2002: 48). Polillo and Guillén (2005: 1794) come to a similar conclusion: ‘[t]he state was reconfigured and restructured along technocratic lines in an attempt to make it more legitimate’. While these studies do not explain how independent central banks have become accepted as appropriate institutions for monetary policy making, they clearly show that their symbolic properties matter. Third, taken-forgrantedness means that some policies can become so widely accepted as appropriate solutions that alternatives disappear from the radar screen of policy makers and become unimaginable (Hannan and Carroll, 1992). Since politics is by definition characterized by the coexistence and struggle of different views on how society should be organized, it does not seem very


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likely that a policy can achieve taken-for-granted status. It is certainly not plausible for domains that are highly politicized, although some scholars have argued that women’s suffrage rights, for instance, spread because they progressively became taken for granted as a central component of citizenship and even of nation-state identity (Ramirez et al., 1997). Also, as Finnemore and Sikkink (1998: 895) note, ‘few people today discuss whether . . . slavery is useful’. However, being taken-for-granted is an extreme status that only few policies are likely to achieve. To sum up, emulation means that policies spread because of their symbolic properties, which are socially constructed, rather than for their objective characteristics. Norms, symbolic imitation, and taken-for-grantedness are three variations of this idea. Towards a Model of Policy Diffusion Learning (rational and bounded), competition and emulation are the main mechanisms in the recent diffusion literature in political science. A problem, however, is that they are hardly integrated (Braun and Gilardi, 2006c). As the discussion so far has shown, the various mechanisms rely on different sets of assumptions. Rational learning and competition assume that actors are (almost) perfectly rational; bounded learning assumes that actors are rational, but only imperfectly so; and emulation insists on the socially-constructed nature of reality. Moreover, no real model of diffusion exists: the relevance of the different mechanisms is usually acknowledged, but they are not put in a coherent analytical framework. A first attempt in this direction was made by Braun and Gilardi (2006c; see also Braun et al., 2007). The premise is to distinguish between the payoffs and the effectiveness of policies. Payoffs reflect the utility of policies, which comprises both electoral and policy rewards, while effectiveness is the extent to which policies deliver intended outcomes, or in other words achieve what they are designed to do. The two components can but need not coincide: on the one hand, leftist governments may prefer generous social policies on both ideological and electoral grounds, but may nevertheless be under pressure for change because of their strain on public budgets. On the other hand, payoffs and effectiveness interact: ineffective policies can be maintained because they are popular and/or they are in line with the preferences of policy makers, and more effective policies can be discarded because of fears of electoral backlash and/or ideological reasons. Many welfare policies, such as pensions and labor-marker regulations, could follow this pattern. The link with diffusion is that these mechanisms influence these two parameters. Learning alters perceptions of effectiveness, but is unrelated to

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payoffs. The experience of other countries helps revise beliefs on the consequences of, say, unemployment policy, but does not necessarily lead to a change in preferences. Unemployment patterns abroad may suggest that looser labor-market regulation is linked to lower unemployment levels but policy makers can still prefer more protection, either because deregulation is electorally suicidal or because employment protection is favored for ideological reasons (or both). The effect of competition is similar. Taking the example of tax policy, a race to the bottom in tax rates can unfold not because policy makers value this policy ideologically, nor because of electoral considerations, but simply because the competitive environment makes high taxes unsustainable, that is, ineffective. Of course, preferences also matter, and high taxes can very well be maintained despite their ineffectiveness. Norms and taken for grantedness are also linked to the perceived effectiveness of policies. When policy makers build common norms, it means that they agree on what constitutes a problem and what is an appropriate solution; in other words, they develop common views on which policies are effective. Taken-for-grantedness is an extreme form of this process: the effectiveness of some policies is no longer questioned, and imposes itself as obvious. However, in symbolic imitation policies are chosen in order to legitimate actions, regardless of their consequences: this means that the payoffs are associated with the policy change, rather than the perceived effectiveness. In sum, this model integrates the various mechanisms into a more coherent framework. By clarifying how they affect the parameters of policy change, the model supplies a stronger theoretical background for diffusion analyses.

THE DIFFUSION OF INDEPENDENT REGULATORY AGENCIES The previous sections have shown that interdependence matters for policy choices, which, consequently, can spread internationally. How relevant is this argument for delegation to IRAs? A number of studies have shown that diffusion also matters in this domain. Henisz et al. (2005), for instance, have studied how privatization, liberalization and independent regulators in the telecoms and electricity domains have spread in 71 countries between 1977 and 1999, and conclude that while domestic factors matter, market-oriented reforms have diffused in an interdependent process. In particular, they adopt a sociological approach and examine how the way countries are embedded in the world system affects the probability that reforms are adopted. Although the results are not entirely unambiguous, they suggest


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that countries are more likely to adopt independent regulators if other countries with which they share similar international export and import markets, and with whom they are more closely tied by trade patterns, have already done so. These results suggest that competition and emulation are the relevant diffusion mechanisms. Similarly, in a series of studies Jordana and Levi-Faur (2005; 2006; Jordana et al., 2007) have focused on sociological mechanisms, and have posited that both cross-national and cross-sectoral channels of diffusion explain the spread of independent regulators. Their arguments rest on the idea that diffusion is driven by professional networks through which ‘agents of knowledge’ construct and spread ideas about best practices (Levi-Faur, 2005a, 2005b). While some of these networks operate across countries, others are based on sectors. In combination, complex patterns of diffusion can emerge. The ‘within-sector’ channel implies that international networks at the sectoral level matter, and that independent regulators spread across countries within the same sector: for example, in the telecoms domains. Second, the ‘within-country’ channel means that the relevant networks are at the national level and that independent agencies spread from one sector to the other, but in the same country: for instance, from telecoms to electricity, but without crossing national borders. Third, the ‘country-tocountry’ channel focuses on how national networks influence each other, and implies that mutual influence occurs between national communities. Finally, the ‘sector-to-sector’ channel concentrates on the reciprocal influence of international communities in different sectors, and therefore posits that independent regulators spread internationally and sectorally. Jordana and Levi-Faur have extended their work from Latin America (Jordana and Levi-Faur, 2005) to the global level (Jordana et al., 2007). The results of a quantitative analysis of 16 sectors in 49 countries between 1964 and 2002 give support to the idea that independent regulators have diffused in several channels, but also show that their relevance has varied over time (Jordana et al., 2007: 32–3). During the ‘incubation period’ (1964–78), the ‘within-sector’ channel was more important, which led to the diffusion of independent agencies in only a few sectors. During the ‘take-off period’ (1979–90), ‘within-country’ and ‘country-to-country’ channels also started to matter, which boosted the spread of agencies and contributed to a global norm that institutionalized regulation through independent authorities as a legitimate practice. Finally, during the ‘saturation period’ (1991–2002), ‘within-country’ and ‘country-to country’ continued to exert influence, thus consolidating the global diffusion of independent regulators. In reference to the mechanisms developed on pp. 91–9, these studies strongly suggest that the diffusion of IRAs has been mainly driven by

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emulation. In other words, independent regulators have been constructed as socially legitimate institutions in the field of regulatory policies, regardless of their actual consequences on regulatory policy-making. These arguments resonate very well with accounts of the spread of independent central banks, which, as we have seen in Chapters 3 and 4, have many similarities with independent regulators. Both McNamara (2002) and Polillo and Guillén (2005) argue that independent central banks have diffused not because of their consequences on monetary policy, but because they have become accepted models of policy making in this area. Polillo and Guillén (2005) show that more independence is granted following similar decisions among peers, not as a response to rising inflation. The idea that independent regulators have become accepted as appropriate institutions is also consistent with the observation that over the past decade, the OECD has consistently promoted independent agencies as a form of good regulatory governance (see for example OECD, 1997, 2002, 2003a, 2003b). For example, in one of its reports the OECD wrote: There is little doubt that compared to regulatory functions embedded in line ministries without clear mandates for consumer welfare, the independent regulators represent an important improvement. This theoretical point is supported by the empirical observation that the economic benefits of market opening – in terms of both domestic and international investment – have been greatest precisely in those sectors – financial services and telecommunications – where independent regulators are most prevalent, though the causality is not entirely clear. (OECD, 2002: 95)

The last words of this citation are a perfect example of understatement. The OECD agenda has thus contributed to making independent regulators legitimate, appropriate and maybe even taken-for-granted institutions for regulatory policy making. Following all these arguments, the hypothesis that will guide the empirical analysis is that the independent regulators have not been adopted independently from each other, and that the diffusion process has been driven by emulation. As we have seen, emulation as a diffusion mechanism can be decomposed into norms, symbolic imitation, and taken-for-grantedness. All these factors are likely to matter for the diffusion of independent regulatory authorities. Norms are constructed in professional networks, several of which exist in the regulatory domains, under the umbrella of the OECD but also of the European Union. Symbolic imitation is also relevant: as independent agencies become accepted as legitimate institutions, their adoption can be ‘ceremonial’ (Meyer and Rowan, 1977) and help policy makers shield themselves from criticism and show that they are acting appropriately. Finally, at the end of the process independent agencies may


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even have achieved taken-for-granted status. Although it is difficult to prove, the insulation of regulation from direct political control seems to have been widely accepted and, as a principle, not really put into question. Therefore, the three components of emulation are likely to matter. However, our hypothesis will remain at a more general level: we will simply hypothesize that independent agencies have diffused in part following emulation. This choice is principally due to the difficulty of disaggregating emulation in a quantitative analysis, but more refined analyses, which would probably have to be more qualitative, should certainly be part of the research agenda of the field. What about the other diffusion mechanisms? Learning is potentially highly relevant: policy makers can be expected to be influenced by the experience of others, and to be more likely to set up independent regulators if in other countries these have proven to be better institutions and to conduce to better regulation. By contrast, they could be reluctant to grant independence if regulation through independent agencies has failed elsewhere. The problem is again empirical, and concerns the identification and measurement of the relevant outcomes of independent agencies. Against which standards should success or failure be assessed? In most cases, independent regulatory agencies pursue multiple and possibly even conflicting goals, such as both strong market performance and universal service (Gilardi, 2003). In addition, economic and social regulators do not pursue the same objectives. Therefore, the empirical analysis of learning in the context of independent regulators is difficult, but highly interesting. Again, this should be taken up in future work. With respect to competition, although Henisz et al. (2005) include it in their analysis as a diffusion mechanism, my position is that in the context of regulatory agencies it is best understood as part of the credibility pressures discussed in Chapters 3 and 4, which are not related to diffusion. This leads us to other hypotheses on the spread of independent regulators that are not linked to interdependence. In effect, although throughout this chapter we have made the point that interdependence and diffusion matter, it would be unwise to argue that only diffusion matters. In other words, we hypothesize that the sector- and country-specific factors explored in Chapters 3 and 4, namely credibility, political uncertainty, and political institutions, matter also for the diffusion of independent regulators, and not only for the degree of their formal independence. Accordingly, three hypotheses can be formulated on the basis of the arguments developed in previous chapters. First, credibility matters. Independent regulators are more likely to be established when policy makers need to increase the credibility of their regulatory policies, which is especially the case when utilities are privatized and liberalized, and more generally in economic

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rather than social regulation. Second, political uncertainty matters: policy makers are more likely to set up independent agencies when they fear being replaced by coalitions with different preferences. Third, political institutions matter: they can mitigate both the credibility and political uncertainty problems, and independent regulators should therefore be less likely to be established in countries with more veto players. In sum, four hypotheses are developed to account for the spread of independent regulators. The first is that delegation to independent agencies has taken place in an interdependent process driven by emulation, while the other three take up the arguments advanced to explain variations in formal independence.

CONCLUSION In this chapter we have argued that diffusion is an important social phenomenon that is likely to characterize many if not most policy making areas. Governments do not take decisions in isolation from one another; on the contrary, they are influenced by the choices of others. The main consequence of this fact, we have argued, is that policies diffuse internationally. The chapter has reviewed how this issue has been treated in the diffusion literature in sociology and that on policy diffusion in the US. We then focused on the more recent diffusion literature in political science, which at the theoretical level distinguishes three main mechanisms driving the spread of policies: learning, competition and emulation. These arguments seem capable of accounting for the international spread of independent regulators. Scholars have insisted principally on the social logic of their diffusion, arguing that their spread has been due to the fact that they have been constructed as appropriate institutions for regulatory policy making, rather than for their objective properties and their consequences on regulation. Accordingly, our main hypothesis is that independent regulators have diffused in an interdependent process where emulation has played an important role. Second, we have argued that the factors that explain why some regulators (credibility, political uncertainty and veto players) are formally more independent than others (see Chapters 3 and 4) and are relevant to the timing of their adoption. In other words, the spread of IRAs has been due to a mix of sector- and country-specific factors and to an interdependent diffusion process driven by emulation. At this stage these are of course just hypotheses that we will explore empirically in the next chapter.


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NOTES 1. The only adjustment was technical: standard errors accounted for the non-independence of observations within countries. 2. Heichel et al. (2005) add also gamma and delta convergence, which are however variations of the basic two types. 3. More precisely, I have drawn 50 observations randomly from a normal distribution with mean 0.5 and standard deviation 0.2 for Period 1, 0.1 for Period 2, and 0.05 for Period 3.

6.

The diffusion of independent regulatory agencies: empirical analysis

INTRODUCTION In Chapters 3 and 4 we examined delegation to IRAs from the perspective of their formal independence from elected politicians. As a result of this conceptual approach and of data limitations, the focus has been crosssectional: we have shown how differences in formal independence across sectors and countries are linked to the nature of regulation, notably in terms of the need for credible commitment capacity, and to the characteristics of the political system, in particular with respect to alternation in government and to the institutional context. The conclusion was that delegation tends to be more extensive (that is, the formal independence of regulators tends to be greater) in utilities and economic regulation than in social regulation, and in countries where there is frequent alternation between governments with different preferences and few veto players. These findings have confirmed the main theoretical expectations. An important dimension, however, was neglected: delegation to independent regulatory agencies is a process that has taken place over time. This is relevant for several reasons. Obviously, analysing a longitudinal process with cross-sectional data leads to loss of information and various sorts of inaccuracies. But more importantly, time matters. While this fact has a number of important meanings and consequences for social science research (see for example Abbott, 2001; Pierson, 2004), the point that we emphasize is that decisions to set up independent regulators have been made at different points in time, and have not been independent from one another. The establishment of an independent telecom regulator in Italy in 1997 is not completely disconnected from the creation of an independent telecom regulator in the United Kingdom in 1984. Put differently, independent regulatory agencies have spread in a diffusion process. To take this important aspect into account, a longitudinal analysis is essential. These ideas have already been explored at the theoretical level in Chapter 5. We will now examine them empirically. 106

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The diffusion of independent regulatory agencies

The next section describes the spread of independent regulators, summarizes the hypotheses and presents the statistical analysis. Conclusions follow.

THE SPREAD OF INDEPENDENT REGULATORY AGENCIES

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Independent regulatory agencies have been established in all countries and many sectors, but their spread is a relatively recent phenomenon. Moreover, they have diffused at different speeds in different domains. Figures 6.1 and 6.2 show the pattern of creation of independent regulators in economic and social regulation in the 17 countries covered by the dataset; dates for all regulators are presented in Appendix 4. Several points are noteworthy. First, in most sectors the pattern tends to be S-shaped. As we have seen in Chapter 5, this is the ideal-typical shape of interdependent diffusion processes. Therefore, Figures 6.1 and 6.2 can be taken as preliminary evidence that the spread of independent regulators has been driven by diffusion. Second, independent regulators are more widespread in economic than in social

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Figure 6.1 The spread of independent regulatory agencies in economic regulation

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Figure 6.2 The spread of independent regulatory agencies in social regulation regulation. We already noted this point in Chapter 4, where it was argued that credibility pressures are greater in economic regulation; here we can see how this difference has unfolded over time. Third, there are significant variations also within these two categories. In economic regulation, a number of independent regulators existed before the 1980s for competition and financial services, while the first independent agencies for telecoms and electricity were established only in the mid-1980s, following the first marketoriented reforms in these sectors. Fourth, the rate of adoption of telecom and electricity regulators has been particularly rapid: no independent telecom regulator existed before 1984, but by 2002 all the 17 countries in the dataset had established one. In electricity, some countries were still without an independent agency in 2002, but the share had passed from zero to 75 per cent in just a decade. Turning to social regulation, independent agencies are clearly less widespread, but there are variations. Independent regulators for pharmaceutical products exist in about two-thirds of the countries, and following a series of scandals in the late 1990s (notably related to ‘mad cow’ disease), several countries established independent agencies for food safety. The question, of course, is how these patterns can be explained. The hypotheses were developed theoretically in Chapter 5. As we have seen, the


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main distinction is among domestic factors, common external pressures and horizontal interdependence. We have termed the latter ‘diffusion’, while the two other categories refer to factors that can also explain the adoption of interdependent regulators, but are not linked to the idea that the decision of a country can be influenced by the choices of other countries. To sum up, the hypotheses are the following. First, the establishment of independent regulatory authorities is more likely when utilities are privatized and/or liberalized (credibility hypothesis). Second, the creation of IRAs is more likely when governments fear their imminent replacement by policy makers with different preferences (political uncertainty hypothesis). This, however, depends on longer-term re-election prospects: if policy makers expect to return to office soon after having lost it, the impact of replacement risk will be smaller. Third, the institutional context matters: veto players mediate both credibility and political uncertainty pressures. Fourth, the experience of others matters: independent regulatory agencies have not been set up independently from previous decisions in other countries and sectors. Instead, independent regulators have been progressively accepted as appropriate institutions for regulatory policies, regardless of their actual consequences. In addition, we will consider pressures from the European Union, which do not constitute a diffusion mechanism following the conceptualization given in Chapter 5, but need to be taken into account in the analysis as a control. We have seen in Chapter 2 that the spread of regulatory reforms and of regulatory agencies is by no means limited to European countries (Levi-Faur, 2003; Jordana and Levi-Faur, 2005), and some authors have argued that the ‘net impact’ of Europeanization is close to zero (Levi-Faur, 2004). Others, however, have reaffirmed that the EU has been an important catalyst in the social construction of independent agencies as appropriate regulatory institutions (Pedersen, 2006). In addition, legislative developments at the EU level have affected the organization of national regulatory institutions. Therefore, taking into account EU pressures in the analysis of the spread of IRAs seems wise. Europeanization is not a diffusion mechanism, though: diffusion is defined in terms of horizontal interdependence, while Europeanization is a common international pressure for member states. This is especially the case for the more formal aspects of Europeanization, namely the fact that the EU passes legislation that member states must apply. By contrast, the role of the EU as a forum where common norms are developed and where certain policies are promoted as appropriate models can be linked to emulation. The latter point is certainly relevant but exceedingly difficult to operationalize empirically in a quantitative analysis, and this is why my focus is on the former. In the rest of this chapter we will examine these hypotheses.

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EXPLAINING THE DIFFUSION OF INDEPENDENT REGULATORY AGENCIES Data and Methods The dependent variable of the analysis is the establishment of independent regulators in a given country, sector and year, and corresponds to the data shown in Figures 6.1 and 6.2 and in Appendix 4. Units of analysis are therefore country-sector-years, and observations are dropped after an agency has been established. Given this data structure, event-history analysis is an appropriate method (Box-Steffensmeier and Jones, 2004, 1997; Beck et al., 1998). Event-history analysis has been the technique of choice for the quantitative study of diffusion since it was advocated by Berry and Berry (1990), and has since been employed in countless analyses (for a survey, see Berry and Berry, 2007). This technique estimates the probability of the occurrence of events, taking into account a baseline hazard and a series of covariates. Within this family of models, several specifications exist. In this analysis I employ a Weibull model, which assumes a monotonically increasing (or decreasing) baseline hazard, and has been used in many diffusion studies (for example Simmons and Elkins, 2004). Determining the date of creation of an independent regulatory agency is more difficult than one may think. Institutional sociologists stress, either as weakness (Baum and Powell, 1995) or strength (Carroll and Hannan, 1989b; Hannan and Carroll, 1995) of this approach, that counting ‘founding events’ is simple. This may be true for banks or newspapers, but it is not for independent regulators. The reason is that in some cases independent regulators are established through reforms or mergers of existing structures; also, their status may change several times. For instance, the French financial service regulator is the Autorité des marchés financiers. It was created in 2003 through the merger of the Commission des opérations de bourse (COB) and two other bodies, the Conseil des marchés financiers and the Conseil de discipline de la gestion financière. In turn, the COB was established in 1967, but its organization and activities were fundamentally revised in 1996. The Finnish food safety regulator is another case in point. It was established in 1990 as the National Food Administration, but became the National Food Agency only in 2001. What is then the date of creation? Although it is often difficult to know the extent of reforms after the original creation, as a rule I have taken the latest date into account. The reason is that I am not interested in the creation of a regulator, but of an independent regulator. The data on the formal independence of these authorities presented in Chapter 4 refer to the situation after the latest reform. In most cases, the latest reforms have increased the independence


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of regulators. This is why the data used here refer to the date of the latest major reform of regulators. A further problem is whether the date of legislation or that of the actual start of operations should be considered. Sometimes the two dates are identical, but there have been up to three years of difference, as in the case of the Greek telecom regulator, which was established by legislation in 1992 but became operational only in 1995. In many other cases one or two years passed between legislation and actual set-up. I use dates of legislation because I am interested in the political decision to set up independent regulators, which is reflected in the enactment of statutes. The independent variables are linked to the hypotheses developed in Chapter 5. First, the establishment of independent regulators could be related to the credibility and political uncertainty problems. These arguments were discussed at length in Chapter 3, and we have seen in Chapter 4 that they are linked to the formal independence of regulators. In Chapter 4 the analysis was cross-sectional, which precluded a refined operationalization of credibility pressures. Since the analysis is now longitudinal, we can employ a better measure. In particular, we link credibility with the liberalization and privatization of utilities, as discussed in Chapter 3. It is especially in this context that policy makers need the ability to make credible commitments. Therefore, I have coded 1 years when telecoms and/or electricity were privatized or liberalized. Of course, this operationalization does not fully capture the complexity of liberalization and privatization processes. By measuring them as events, I assume that they have an effect on delegation only at the moment when, respectively, some shares in the incumbent public operator are transferred to private ownership, and companies other than the incumbent are allowed to operate in the market. This is of course a simplification. First, privatization and liberalization do not have consequences only when they are enacted. In fact, it is often argued that the establishment of an appropriate regulatory framework should precede the actual privatization and liberalization process. To take this into account, however, one should specify the duration of this ‘retroactive effect’. Although a pragmatic solution could be found, it would be to a large extent arbitrary. At the same time, it is possible that the effects of privatization and liberalization continue beyond the formal enactment of market opening and the transfer of shares to private investors. It is therefore plausible that credibility pressures arise during the entire post-privatization/ liberalization period. If we follow this reasoning, however, the result would be an extremely imprecise measure of the concepts: the measure of credibility pressures would cover much of the 1990s. I do not think that this would be an effective operationalization of the credibility pressures associated with privatization and liberalization, and I prefer a conservative indicator where

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privatization and liberalization are measured through a binary variable taking the value of one for years when privatization and/or liberalization were enacted. In sum, the measure of privatization and liberalization that I adopt is a simplification. It should be noted, however, that it is quite conservative, and that if it is biased, it is likely to underestimate the real effect of privatization and liberalization. The relevant dates are shown in Appendix 5. Turning now to political uncertainty, the same measure as in Chapter 4 is used: the risk of a government being replaced by another with different preferences (replacement risk) (see Appendix 3). But here again we can take advantage of the longitudinal nature of the analysis. In particular, we argued in Chapter 3 that delegation means both binding and self-binding, so that not only the immediate ‘replacement risk’ should matter, but also the longer-term re-election prospects. Due to the cross-sectional nature of the data, we could not test this hypothesis properly in Chapter 4, but we can do it now. Specifically, the analysis includes both yearly measures of replacement risk and the mean value over the whole period, as well as an interaction between these two variables. Average replacement risk indicates the extent to which extent alternation between governments with different preferences is common in a given country, and therefore the extent to which a government that is losing office can expect to regain it soon. The expectation is that the impact of replacement risk on the probability that an independent regulator is established is greater when re-election prospects in the medium term are poor. For the diffusion hypothesis, which emphasizes emulation, I count the number of independent regulatory agencies (as a share of the potential number) exist at time t1 at three levels: all sectors, same regulatory type (economic or social), and same regulatory domain (utilities, other economic regulation, social regulation). While this measure is simple, it has been widely employed both in the sociological literature on organizations (for example Hannan and Carroll, 1992) and in political science studies of diffusion (for example Simmons and Elkins, 2004). As discussed in Chapter 5, as independent regulators become more widespread, their social acceptance and legitimacy as an appropriate organizational form for regulatory policy making grow, thus increasing the probability that further independent regulators are established. The analysis also includes measures for veto players and for the partisan composition of governments. For veto players, I use Henisz’s (2002) ‘political constraints’ index, which is conceptually very close to Tsebelis’ veto players but has a broader coverage, especially over time. For the partisan composition of governments, I rely on Woldendorp et al., (2000), whose data distinguish left, center-left, center, center-right and right governments.


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Finally, to examine the role of the European Union, I have identified three directives: Directive 96/92 (common rules for the internal market in electricity), Directive 92/44 (application of open network provision to leased lines) and Directive 97/51 (amending Directives 90/387 and 92/44 for the purpose of adaptation to a competitive environment in telecommunications). These directives were selected after a careful examination of EU legislation, and a list can be found in Appendix 6. On this basis, I have created three binary variables taking the value of one for the period during which member states had to implement them. Statistical Analysis The results of the statistical analysis are shown in Table 6.1. Three models are presented: the difference is simply in the diffusion measure that is employed. The first model includes the share of existing independent regulators in all sectors, the second in sectors belonging to the same regulatory type, and the third in sectors belonging to the same regulatory domain. All models include several interactions, notably to test whether the effects of liberalization and replacement risk depend on institutional and partisan characteristics. We can already see from the coefficients that the results support the main arguments. With respect to the credibility hypothesis, IRAs are more likely to be created when utilities are privatized and/or liberalized. As explained earlier, since the operationalization of these concepts is quite restrictive, this finding is a strong confirmation of the credibility argument, and is also likely to underestimate the real impact of market reforms. The effects of liberalization, however, depend on the partisan composition of governments and on the institutional context. The nature of these contextual effects will be discussed below. Furthermore, independent regulators are more likely to be established in economic regulation than in social regulation or in utilities outside privatization and liberalization. Turning to the political uncertainty hypothesis, we see that the probability that an independent regulator is set up increases with replacement risk. This effect depends on the average value of replacement risk, that is, on general expectations of re-election once office has been lost. In addition, the impact of replacement risk depends on the institutional context. These findings support the theoretical expectations which we will discuss in detail shortly. Third, the European Union matters: the establishment of independent telecoms regulators was much more likely when national governments had to implement Directive 97/51. This effect is statistically highly significant and substantively important: controlling for all other variables (including privatization and liberalization), the probability that an independent

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Table 6.1 The diffusion of independent regulatory agencies: statistical analysis (1) (2) (3) (share of (share of (share of independent independent independent regulators: regulators: regulators: all sectors) same reg. type) same reg. domain) Credibility Financial markets / competition Privatization Liberalization Liberalization * political constraints Partisan comp. of gov. * liberalization Political uncertainty Replacement risk Mean repl. risk Repl. risk * mean repl. risk. Repl. risk * political constraints Europeanization EU directive 92/44 (telecoms) EU directive 96/92 (energy) EU directive 97/51 (telecoms) Diffusion (emulation) Share of independent regulators Institutions and parties Political constraints Partisan composition of government

0.979*** (0.252) 1.703** (0.660) 12.229*** (2.705) 15.116*** (4.935) 2.104*** (0.334)

0.750*** (0.256) 1.572*** (0.591) 12.015*** (2.569) 15.176*** (4.749) 2.021*** (0.320)

0.338 (0.329) 1.752** (0.686) 11.957*** (2.737) 14.264*** (4.963) 2.146*** (0.343)

4.493*** (1.468) 2.967*** (0.827) 5.407** (2.147) 5.199*** (1.856)

4.554*** (1.484) 2.918*** (0.842) 5.454** (2.148) 5.256*** (1.881)

4.742*** (1.464) 2.982*** (0.840) 5.739*** (2.124) 5.342*** (1.877)

0.762 (0.775) 0.524 (0.466) 2.645*** (0.380)

0.502 (0.738) 0.237 (0.493) 2.319*** (0.399)

0.791 (0.800) 0.407 (0.477) 2.587*** (0.388)

3.418*** (1.156)

2.686** (1.053)

2.835*** (1.007)

1.052 (1.414) 0.196 (0.144)

0.989 (1.424) 0.185 (0.143)

1.071 (1.446) 0.195 (0.144)

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Table 6.1

(continued) (1) (2) (3) (share of (share of (share of independent independent independent regulators: regulators: regulators: all sectors) same reg. type) same reg. domain)

Constant Alpha Wald 2 Sectors*countries (IRA creations) Number of observations

15.755*** (4.024) 3.466 (1.054) 649.27 117 (77) 4405

16.948*** (4.363) 3.849 (1.133) 597.65 117 (77) 4405

16.381*** (4.179) 3.712 (1.081) 679.54 117 (77) 4405

Note: Entries are estimated coefficients from Weibull event history analysis models. Robust standard errors in brackets (for clustering on country-sectors). *** p 0.01, ** p 0.05.

regulator is established is about 14 times greater during the implementation period than before or after it. This effect is visible also in Figure 6.1: most telecoms regulators were established around 1997. The two other directives, by contrast, do not seem to have had much impact on decisions to establish independent regulators. This is not surprising: as shown in Appendix 6, explicit provisions for the separation of ownership and regulation are found especially in Directive 97/51. Finally, the diffusion hypothesis is also confirmed: the probability that an independent agency is established increases with the number of agencies that have already been created. A first look at the results, thus, shows that our main expectations are substantiated by empirical evidence. To interpret the findings more accurately, however, we need to go beyond coefficients. In nonlinear models such as the one that has been used here, coefficients do not represent marginal effects of the independent variable on the dependent variable. Therefore, it is useful to look at how the predicted probability of the creation of independent regulators varies as a function of the independent variables (King et al., 2000). Figure 6.3 shows how the probability that an independent agency is established varies as a function of liberalization and veto players. Liberalization increases the probability that an independent regulator will be created, but the effect decreases as political constraints increase. Conversely, political constraints do not generally reduce the probability of


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Figure 6.3 The probability that an independent regulatory agency is established as a function of political constraints and liberalization (predicted values) change: instead, veto players mediate credibility pressures stemming from utilities liberalization. These findings strongly support the credibility hypothesis. Policy makers delegate regulatory competencies when they need to be able to make credible regulatory commitments, but the institutional context can help: when it makes policy change more difficult, policy commitments are ‘imperatively’ credible (Shepsle, 1991), because a change in policy preferences can be less readily translated into policy change. This is consistent with Figure 6.3: utilities liberalization generates a need for credible commitment capacity, but the impact on delegation is much weaker when political constraints are high and work as a functional equivalent of delegation in this respect. Political institutions, thus, mediate the influence of liberalization on the creation of IRAs. This, however, also depends on the partisan composition of governments, as shown in Figure 6.4. The nature of the contextual mediation operated by partisan politics is unexpected but very interesting. The probability that an independent agency is established increases as the partisan balance of the government moves to the left, and this effect is much more

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Center-right

Figure 6.4 The probability that an independent regulatory agency is established as a function of liberalization and the partisan composition of governments (predicted values) pronounced when utilities are liberalized. While center-left governments are quite likely to establish an independent regulator when they liberalize utilities, the probability that a center-right government does the same is very low. This is at first sight counterintuitive, since granting independence to regulators follows a technocratic logic that, in principle, is more appealing to conservative parties. In fact, the finding is consistent with the credibility hypothesis. While the impact of liberalization on the creation of agencies is smaller in countries with many political constraints because these make commitments imperatively credible, government partisanship influences the extent to which commitments are motivationally credible (Shepsle, 1991) (see also Chapter 3). Since center-right governments tend to be more pro-market than center-left ones, a commitment for pro-market regulation made by the former will tend to be quite credible, and delegation will be less needed to increase the credibility of commitments. Conversely, a center-left government will be hard pressed to demonstrate that pro-market promises will be kept, and the creation of an independent regulator can serve as a signal to this end. Therefore, although this pattern was not expected theoretically, it does go in the direction of the credibility hypothesis.

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Turning now to the political uncertainty hypothesis, Figure 6.5 shows how the probability that an independent regulatory authority is set up is linked to replacement risk, and how the relationship is mediated by the institutional context. As expected, the establishment of an independent regulator becomes more likely as replacement risk increases. We have already seen in Chapters 3 and 4 that delegation to an independent authority can be a means by which policy makers can tie the hands of their successors. The finding that delegation is more likely when the risk of being replaced by policy makers with different preferences is high is consistent with this argument. We also see that the impact of replacement risk depends on political institutions. When there are many political constraints, replacement risk makes little difference, while when there are few such constraints, replacement risk has a strong effect. It makes sense: in a country with many veto players, partisan preferences are less easily translated into policy actions, since policy change is more difficult (Tsebelis, 2002). Therefore, even if, for instance, a right-wing government replaces a left-wing one, it is unlikely that there will be drastic policy changes: the new government may want to enact wide-ranging reforms, but institutions will prevent it from doing it. In other

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Figure 6.5 The probability that an independent regulatory agency is established as a function of replacement risk and political constraints (predicted values)

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words, the consequences of replacement risk are less important in institutional contexts with many veto players: new policy makers will have fewer opportunities to reverse the policies that old policy makers have enacted. The results shown in Figure 6.5 are consistent with this view: replacement risk increases the probability that an independent authority will be established, but less so if there are many political constraints. It is interesting to note here that, in this analysis, veto players have the same effect both for credibility and for political uncertainty pressures. Political institutions seem to work as functional equivalents of delegation in the context of both credibility and political uncertainty, which is a strong confirmation of this hypothesis. As we have seen in Chapters 3 and 4, the literature on central banks argues the opposite: that institutions making policy change more difficult are a precondition for meaningful delegation. These results confirm that for regulatory agencies political constraints are taken as a substitute of delegation. Of course, the question of why results differ between regulatory agencies and central banks (see Chapter 4) remains open. The impact of replacement risk on delegation, thus, depends on political constraints. In addition, Figure 6.6 shows that it also depends on the extent to which high government instability is a common feature of the political

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Figure 6.6 The probability that an independent regulatory agency is established as a function of replacement risk (predicted values)

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system. If alternation in government is frequent, then delegation when replacement risk is high implies binding others, but also substantially binding oneself. In effect, under these circumstances after losing office a coalition can expect to come back to power soon, so that the constraints imposed on the new government through the creation of an independent authority will backfire when the coalition regains office. By contrast, if replacement risk is usually low in a given country, then delegation to an independent regulator when replacement risk happens to be high means essentially binding others, since when policy makers lose office, they are likely to stay out of power for quite a long time. In this case, establishing an independent agency is more appealing. This line of reasoning is consistent with Figure 6.6: the probability that an independent regulator is established increases with replacement risk, but more so where replacement risk is usually low. As we have just argued, this is because policy makers expect to lose control over policy soon and not to regain it in the short term, so that delegation essentially binds the new government. However, we see that in countries where replacement risk is usually high, the probability of agency creation does not increase with replacement risk. Again, this is because policy makers may be likely to lose office soon, but are equally likely to regain it eventually, since alternation in government is frequent. Therefore, delegation implies substantial self-binding, and is therefore less appealing. Figure 6.6 also shows that when replacement risk is low, the probability that an independent authority is established is greater when replacement risk is usually high than when it is usually low. In theory, if replacement risk is low, the average level of replacement risk should not matter: the probability of delegation should be small. Although in this context the slope of the curves is more interesting than their levels, we can try to interpret this point. One explanation could be that policy makers take into account average rates of alternation in government as indicators of how their prospects look not only in the longer term, but also immediately. In other words, at a given moment replacement risk may be low, but policy makers will overestimate it in an exceptional situation (that is, if replacement risk is usually high). Of course, this is just a speculation. What is more important for present purposes is that replacement risk increases the probability of delegation, but more so when it is usually low: this is consistent with theoretical expectations about the consequences of political uncertainty. The provisional conclusion so far is thus that domestic factors matter for the diffusion of IRAs. In effect, utilities privatization and liberalization, the risk for a government of being replaced, the partisan composition of governments, and the institutional context matter for decisions to establish

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0.2 0.1 0


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Figure 6.7 The probability that an independent regulatory agency is established as a function of the share of existing independent regulators (predicted values) independent regulators. This means that independent agencies have spread in part as a result of similar country-specific factors. In addition, common pressures from the EU level have influenced the process, in particular for telecoms. However, horizontal interdependencies matter, as shown in Figure 6.7. Controlling for country-specific pressures, EU legislation, and the baseline hazard, the probability that an agency is established sharply increases with the number of agencies that already exist. The effect is quite sizeable: all else being equal, the establishment of a new agency is about five times more likely if independent regulators are widespread than if they are a novelty. The creation of independent regulators in one country and sector therefore depends on previous decisions in other countries and sectors. The establishment of independent authorities has thus been an interdependent process: following the definition given in Chapter 5, this means that a real diffusion process has been at work. In other words, independent regulators have spread not only as a result of similar pressures in different countries, but also because countries influence each other. This result shows quite clearly that independent regulators have not been established in a void, and that interdependent diffusion matters. However,

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what has been the nature of this diffusion process? This is an important question. Following the sociological literature, our hypothesis was that there has been emulation, that is, that independent regulators have spread for their symbolic properties and because they have progressively become a socially valued and legitimate way to carry out regulation, regardless of their actual consequences on regulatory policy making. Again following the sociological literature, we have operationalized this idea quite simply, through the share of existing independent agencies. Therefore, the conclusion is that IRAs have diffused in a process that is not very rational and that is not linked to the real effects of these institutions. Independent regulators have become accepted as an appropriate way to organize regulation, and today may even be taken for granted as such. On the one hand, the spread of independent regulators bears many similarities to that of central banks (McNamara, 2002; Polillo and Guillén, 2005). On the other hand, the measure we have employed is clearly crude. Future work should certainly develop a more precise and nuanced view of how independent regulators have diffused. On the basis of this analysis, we can conclude that diffusion matters, and that the process seems closer to emulation than to other mechanisms. These are central issues, which will be further developed in the conclusion of this book.

CONCLUSION In this chapter we have examined the diffusion of independent regulatory authorities in Western Europe. We have seen that while few such agencies existed at the beginning of the 1980s, by the end of the 1990s they had spread all over Europe. The analysis has shown that this process was partly driven by common pressures both at the national and at the supranational level. The main factors that are linked to the formal independence of regulators (see Chapter 4) have also contributed to the timing of their establishment. Therefore, the spread of independent agencies can partly be attributed to credibility pressures, political uncertainty, and the institutional context. In addition, the EU has played a role, especially in the telecoms sector. But beyond these common pressures, independent regulators have spread in an interdependent process: in other words, they have diffused across countries and sectors. More precisely, we have argued that the diffusion process was characterized by emulation: independent regulatory agencies have steadily become legitimate institutions, widely accepted as appropriate institutional forms in regulatory policy making. In this perspective, it is not so much the actual consequences of independent regulators that matter, but rather their social status. However, we have also noted


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that further research is needed to better understand the process through which independent agencies have diffused. Combined with the analysis of the formal independence of regulators, which was presented in Chapter 4, we have now a quite complete picture of delegation to independent regulatory agencies in Western Europe. Of course, this does not mean that further research on this subject has become superfluous. Quite the contrary: the broad survey offered in this book has just scratched the surface. Many avenues for future research are wide open, and they will be discussed in the concluding chapter.

7.

Conclusion

INTRODUCTION The conclusion has three parts. We will first sum up the main findings discussed in this book. Second, we will argue that the quantitative analysis presented here can be usefully employed to go back to the cases with a strong analytical focus, because it helps identify relevant cases for case studies and qualitative comparisons. The case of the German energy regulator will be reviewed, and other suggestions put forward. Finally, we will discuss the broader issues raised by this book, including the link between formal and informal independence, the consequences of agencification for regulatory policy making, and the importance of interdependence and diffusion for the study of regulation.

DELEGATION TO INDEPENDENT REGULATORY AGENCIES: WHAT HAVE WE LEARNT? What have we learned about delegation to IRAs? First, the credibility hypothesis receives strong confirmation. Credibility pressures increase both the probability that an independent regulator will be established and the extent of its formal independence. Supportive evidence is that delegation is more extensive in economic regulation in general, and in utilities in particular, than in social regulation, and that independent agencies are more likely to be established when utilities are privatized and/or liberalized. This pattern is consistent with our expectations linked to the credibility argument, which states that credibility problems are present when governments have to deal with investors, which is the case in economic regulation. However, the problem is most severe in utilities because of the high sunk costs present in these sectors, and because the recent market opening means that there are strong incumbents that had previously been publicly owned. These two factors raise the costs associated to unstable regulatory frameworks, possibly biased in favor of formerly state-owned enterprises, which makes it essential that regulatory commitments are credible. Political uncertainty is a second reason why governments delegate powers to independent authorities. When governments fear being replaced 124

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by other governments with different preferences, independent regulators are more likely to be set up and to be more independent of elected politicians. Furthermore, this effect is stronger if governments estimate that their chances of regaining office after having lost it are poor. Delegation involves both self-binding and binding others. In the context of political uncertainty, the former constitutes a cost, and the second a benefit. If, on the one hand, a government faces high replacement risk, but also expects an imminent return, delegation involves binding others, but also binding oneself. On the other hand, if replacement risk is high and the prospects of regaining office are poor, delegation essentially amounts to binding others. Delegation is clearly more appealing in the latter case. This line of reasoning is consistent with both our cross-sectional analysis of the formal independence of regulators and, especially, the longitudinal analysis of their establishment. Political institutions also matter. In countries with more veto players, independent regulatory agencies are both less likely to be set up and to be formally less independent of governments. In addition, veto players moderate both credibility and political uncertainty pressures: the impact of this factor on the probability that an independent agency is created is larger in countries with fewer veto players. Veto players promote policy stability and are therefore a functional equivalent of delegation to achieve credible commitment capacity and to protect policy choices from the hazards of alternation in government. The fact that veto players have the same effects both in the context of political uncertainty and of credibility strengthens the conclusions. At the same time, we have seen that the pattern of delegation to central banks is different: central banks tend to be more independent in countries that have many veto players. This finding is at odds with our arguments on IRAs, but is in line with conventional wisdom in the central banks’ literature, where it is argued that many veto players are a prerequisite for meaningful delegation. In this view, delegation in a political system characterized by few veto players is not credible because it can be easily revoked. Why the role of political institutions is opposite for central banks and regulators remains a puzzle. From the diffusion perspective, the importance of credibility, political uncertainty and political institutions means that the spread of independent regulators in Western Europe has in part been due to common pressures, not to interdependencies. In other words, independent regulatory authorities have been established at approximately the same time, partly because the same functional pressures, especially credibility, became salient everywhere at approximately the same time. Independent regulators have also spread in an interdependent process driven by emulation. All else being equal, the probability that an independent agency will be established

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increases with the share of sectors and countries in which agencies have already been set up. Following the sociological literature, we have interpreted this result as evidence that independent regulatory agencies have spread partly because of their symbolic properties. Independent authorities have progressively become legitimate and socially valued institutions in the field of regulation, and may now even be taken for granted as an appropriate organizational form in this area. Finally, the European Union has also played a role, especially in the telecoms sector: independent regulators were much more likely to be established when Member States had to implement Directive 97/51, which required them to separate ownership from regulation in the telecoms field. These conclusions are based on a broad analysis of many cases. They highlight robust tendencies, but they inevitably obfuscate the specificities of the different cases, and overlook the precise mechanisms that have been at work in individual countries and sectors. In fact, this is a strength of this research, since most research on independent regulators in Europe consists of qualitative case studies which do exactly the opposite: giving a detailed account of processes in a few instances, but with limited possibilities for generalization. However, future work should move back to case studies on the basis of the broad analysis offered here. But which cases would be the most interesting?

BACK TO CASE STUDIES: WHICH CASES ARE ‘GOOD’? Case selection has been a longstanding, if unresolved, issue in comparative studies. Mill’s method of agreement and method of difference (Mill, 1895), as well as their most-similar and most-different systems design variant (Przeworski and Teune, 1970), have for a long time been the quintessential case selection strategy across the social sciences. At the same time, everyone is aware of its inherent practical limitations when it comes to choosing real cases in real research: cases never correspond to Mill’s ideal-typical configurations, and in fact they rarely even come close. A useful contribution to this debate has been recently put forward by Lieberman (2005), who advocates a stepwise approach where the results of a (preliminary) quantitative analysis are used to select ‘interesting’ cases or to construct ‘good’ comparisons. The idea is to compare the predicted values of the dependent variable with the actual values. ‘Interesting’ cases can be those for which the two values coincide: this means that the model accurately explains them, and these cases can therefore be used to investigate how exactly the mechanisms postulated in the large-N study unfold at the micro-level. However,

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interesting cases can also be outliers: deviant cases have for a long time been used as sources of theory building, like, for instance, the Netherlands for the theory of consociational democracy (Lijphart, 1969). Furthermore, cases that have similar predicted values but different actual values approximate a method-of-difference configuration: on the basis of the quantitative analysis, these cases are ‘most-similar’, since the model predicts similar outcomes, yet they are very different. Here, the comparison would focus on the differences between the two cases that could explain the different outcomes, despite the many similarities that lead the quantitative model to predict them to be similar on the dependent variable. The opposite strategy is also possible: select two cases that have very similar actual values of the dependent variable but very different predicted values. This configuration approximates a method-of-agreement design. The logic here is to look for the similarities that could explain the similar outcome despite the difference in predicted values, which means that the cases differ on a wide range of independent variables. In sum, Lieberman’s (2005) approach systematizes the principles that have informally guided case selection in comparative studies for a long time, namely to look for outliers, most-similar cases with different outcomes, and most-different cases with similar outcomes. These insights offer guidelines to move from the quantitative analysis presented in this book to theory-driven qualitative studies of delegation to independent regulatory agencies. Figure 7.1 shows the logic of case selection for the formal independence of regulators. The horizontal axis represents the actual independence of regulators, that is, their formal independence from governments as measured through the independence index presented in Chapter 4. The vertical axis shows the predicted level of independence, computed on the basis of Model 2 in Chapter 4. The dotted line represents points for which predicted and actual independence values are equal. The circles, squares and other symbols, finally, represent the regulators included in the analysis. The closer they are to the dotted line, the better the empirical model explains their independence level. A multitude of case selections would be possible on this basis. We see that there are several outliers, but the most prominent one is the German electricity sector, where following the model there should be a quite independent regulator but, in the period considered in the analysis (until 2002), there was none. German electricity is therefore a puzzling case for which a case study would be highly appropriate. Other authors have already acknowledged as much. Padgett (2003: 240), for example, describes the German case as ‘a paradox’. In effect, Germany adopted a unique approach to electricity reform in Europe: full liberalization (in 1998) without the establishment of an independent regulator (Padgett, 2003; Humphreys and Padgett, 2006;

128 1


0.8

NOR/electricity

0.6

SPA/electricity BEL/telecoms BEL/electricity

0.4

GER/electricity

0.2

Predicted independence

Predicted independence = actual independence

0

NET/pharmaceuticals

0

0.2

0.4

0.6

0.8

1

Actual independence

Figure 7.1

Case selection: the formal independence of regulators

Bartle, 2002; Brunekreeft and Twelemann, 2005; Müller, 2006). The reason was the choice of negotiated instead of regulated third-party access to the network. That is, instead of setting and enforcing rules on how market actors can operate on the transmission network, Germany preferred to rely on negotiated arrangements, with the Bundeskartellamt having competences for ex-post control in case of abuses and the Economic Ministry acting as a mediator (Humphreys and Padgett, 2006: 388–9). Germany therefore relied on self-regulation, with public authorities playing only a subsidiary role. According to several authors, this arrangement was strongly influenced by the German neo-corporatist tradition (Müller, 2006: 273–4), and especially by the high number of veto players, which have blocked attempts to establish a federal regulatory authority (Humphreys and Padgett, 2006: 398; Padgett, 2003: 239). In the end, however, Germany did establish a sectoral regulator for the energy sector. The German government announced in September 2003 that regulatory competencies in the energy domain would be delegated to the RegTP, the telecoms regulator.1 The government discarded the establishment of a new agency and considered two options: delegation to the Bundeskartellamt and to the RegTP. Some commentators argued that the Bundeskartellamt was considered to be too independent to oversee such an

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important sector as energy;2 others think that the RegTP had built a good reputation and was a successful regulator in the telecoms domains, while the Bundeskartellamt had already missed a chance to expand its regulatory powers when the telecoms regulator was created in 1996 (Müller, 2006: 278). The new Energy Act was passed in 2005. It expanded the RegTP (which became the Bundesnetzagentur, BNA) by giving it competencies over all network industries: telecoms, postal services, electricity and gas markets, and also railways (Müller, 2006: 278). In the light of the analysis presented in this book, the fact that Germany eventually decided to delegate regulatory powers in the energy domain is not surprising. Indeed, Figure 7.1 shows that before doing so, Germany was the biggest outlier in the analysis. Energy market regulation needs credible commitment capacity. The analysis has shown that controlling for political institutions, which can be functional equivalents of delegation, independent regulators are more likely to be established in utilities than in other regulatory domains, and tend to be granted more independence. In relation to these arguments, there is consensus among scholars that the pre-2005 regulatory framework was not successful (Brunekreeft, 2002; Brunekreeft and Twelemann, 2005; Müller, 2006: 275–6). The main problem was that it did not create the right conditions to attract competitors into the market. The Bundeskartellamt had only the power to sanction discrimination in network access, but not to regulate access charges. As a consequence, while potential competitors did not fear discrimination, the price set by network owners was prohibitive, which reduced profit margins and made market entry unattractive (Brunekreeft, 2002). The result was a lack of competition, a high level of concentration, and high retail prices. In short, market failures. Fundamentally, this was a credibility problem. Successful liberalization requires private investments and competition, but prospective competitors will be put off if they do not have sufficient regulatory guarantees. In the German electricity market, the absence of regulation of network-access charges by an independent regulator was clearly a serious obstacle to the development of competition and for the improvement of market performance (Brunekreeft, 2002). In addition to credibility problems, political uncertainty might also have played a role. At the time, the Schröder government was not facing an election but was having quite a hard time. First, the 2002 election was won by the SPD-Greens coalitions almost by accident, thanks to highly conjunctural factors such as the Iraq war and the floods that struck several German regions (Patzelt, 2004: 286). Despite the victory, it lost about 15 seats in the Bundestag in the 1998 election.3 Further, the SPD accumulated a series of defeats in regional elections, for example in Bavaria, where the CDU obtained more than 60 per cent of the votes while the SPD obtained less

130


than 20 per cent.4 More generally, the post-2002 election period was characterized by painful decision-making processes and gridlock, which strained the governing coalition (König et al., 2003). On the one hand, it was a period of relatively high political uncertainty for the German government. On the other hand, political uncertainty is usually low in Germany, which means that if a new coalition gains power, it is likely to keep it for a relatively long time. Conversely, if the incumbent coalition loses power, it can expect to stay away from it for a while. We have seen that these are exactly the conditions under which delegation becomes an attractive solution to political uncertainty. There is a third factor linked to the findings of our quantitative analysis that explains the 2005 reform. We have seen that EU Directive 97/51 had a strong impact on the establishment of telecoms regulators. The establishment of an independent energy regulator in Germany was accelerated by Directive 2003/54/EC,5 which required all Member States to use regulated instead of negotiated third party access (Brunekreeft and Twelemann, 2005: 99; Müller, 2006: 276). In fact, Germany was the only country that did not regulate access. Indirectly, this directive required the establishment of a regulator, since a new regulatory task was introduced. Finally, emulation also probably mattered. By 2005, the consensus was clear that utilities should be regulated through independent agencies. This shifts the ‘burden of proof’: while early adopters have to justify why they want to take up the innovation, latecomers need to justify why they do not want to do it. This is also Müller’s conclusion (2006: 276): In a cross-country perspective, Germany was the only EU member state to have liberalized the energy sector without employing the device of a regulatory agency except for Malta. So, in a sense, one could hypothesise that there was peer pressure to ‘coercive learning’ in an EU environment where Germany was basically ‘the last’ to follow a path used by all fellow member states. Avoiding ‘German exceptionalism’ within the process of EU integration has usually been an important guideline of German EU policy. . . . one could claim that the German government ran out of arguments in favour of its Sonderweg.

This interpretation is perfectly in line with our longitudinal analysis of the spread of independent regulators. All else being equal, the more independent agencies have already been established, the greater the probability that another one will be set up. We have linked this finding to an emulation process where the social acceptance and the socially constructed appropriateness of independent agencies play an important role. Müller’s analysis goes precisely in this direction. To sum up, the decision of the German government to delegate regulatory powers in the energy sector is far from surprising in light of the arguments

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presented in this book. Credibility problems, political uncertainty, EU pressures, and emulation seem to have mattered in the decisions. An independent energy regulator now exists also in Germany, which is no longer an outlier. Figure 7.1 identifies other interesting cases in addition to Germany. A first comparison could focus on the Belgian telecoms and electricity regulators, which have the same predicted level of independence, but whose actual (measured) independence is very different. This corresponds to a method-of-difference design: we have two cases that are very similar, but whose outcome is very different. The case studies would thus focus on the differences between these two regulators that could explain different independence levels despite many similarities. These two cases are intuitively similar, since they are both in the same country and in the utilities domain, but Figure 7.1 permits us to identify less straightforward cases for a method-of-difference comparison: any pair with very similar predicted independence and very different actual independence would fit this design. At the same time, a comparison based on the opposite logic is also possible. Comparing the pharmaceutical regulator in the Netherlands with the electricity regulator in either Spain or Norway (or both) follows a methodof-agreement design. The cases here are very different, both intuitively (different countries and regulatory domains) and on the basis of the analysis, since the predicted independence values are very far away from each other. The model predicts that these regulators should have different levels of independence, but we see that actual (measured) values are very similar. The case studies here ask the following question: what makes these cases similar despite their many differences? Again, many other comparisons are possible: as long as predicted values are very different and actual values are very similar, the comparison follows a method-of-agreement design. Figure 7.1 is based on the cross-sectional analysis of the formal independence of regulators, and the case studies that could be based on it would focus on this dimension. By contrast, Figures 7.2 and 7.3, which are based on Model 3 in Chapter 6, show how cases could be selected to investigate in a qualitative way the establishment of independent regulators in the context of the longitudinal analysis of their diffusion. Lieberman’s (2005) approach works only for cross-sectional analyses, and has to be modified here. Figure 7.2 shows the predicted hazard of the establishment of independent regulators in the year when they were actually created. In other words, each bar represents a country-sector in the year when an independent regulator was set up, and its height indicates how likely this creation was, according to the quantitative model. Figure 7.3 represents negative cases, that is, cases where the outcome was absent (Mahoney and Goertz, 2004). In other words, bars represent country-sectors in years were independent regulators were not set up. There is of course a large number of

132

0.6 0.4 0

0.2

Predicted hazard

0.8

1


0

50

100

Country-sector

Figure 7.2 Case selection: the establishment of independent regulatory agencies (positive cases) such negative cases: country-years where independent regulators were not created are obviously much more numerous than country-years where they were established. Figure 7.3 therefore shows only a few examples. What kinds of case studies can be constructed on this basis? Looking first at positive cases (that is, where independent agencies were established, Figure 7.2), we see that in a few cases the probability of this event was extremely high. In particular, according to the model the establishment of independent regulators for telecoms in the United Kingdom in 1984 and in Italy in 1997, and for electricity in Finland in 1995, was very likely. A qualitative study could focus on one of these cases to investigate to the extent to which the mechanisms highlighted by the quantitative analysis can be identified in a qualitative examination. By contrast, in other cases independent agencies were established although this was not very likely according to the model. For instance, the establishment of independent telecoms regulators in Belgium in 1991 and in Finland in 1987, as well as of a competition authority in Spain in 1989, had a low probability. Case studies would focus here on the reasons for these creations despite the absence of many preconditions. A similar logic can be followed for negative cases (Figure 7.3). Interesting cases here are especially those in which an independent regulator was very likely to

Figure 7.3

Predicted hazard

0.5

0

0

Country-sector

100

50

Case selection: the establishment of independent regulatory agencies (negative cases)

50

100

2000

1997

0

1995

1992

1

1

0.5

0

133

134


be established, according to the model, but was not. In particular, the probability for a telecoms regulator to be established was extremely high in Denmark in 1997, but no independent agency was set up. Similar cases are telecoms in Portugal, also in 1997, telecoms in Denmark in 1992, and financial markets in France (1995) and Austria (2000). Researchers might ask why no independent regulator was established despite the presence of many preconditions. Finally, positive and negative cases can be compared. In a method-of-difference logic one would compare similar cases with different outcomes: for instance, the establishment of a telecom regulator in Italy in 1997, and the non-establishment of one in Denmark in the same year. The probability was very high in both cases, but what explains why an independent agency was established in one case but not in the other? By contrast, following a method-of-agreement design one could compare positive cases where the probability was different, for instance telecoms in Italy in 1997 (high probability) and electricity in Finland in 1987. What was common to these cases where, despite their differences, independent regulators were created? These are of course just a few possibilities; other cases and comparisons could be selected. To sum up, the quantitative analysis presented in this book could serve as a basis to go back to cases and conduct qualitative analyses. Case studies and qualitative comparisons so constructed would be strongly analytical and could be valuable complements to existing qualitative work.

DELEGATION IN THE REGULATORY STATE: BROADER IMPLICATIONS AND ISSUES FOR FURTHER RESEARCH This book has focused exclusively on the formal aspects of the regulators’ independence. This approach was justified because of our interest in the political act of delegation, and in this context formal institutions are central: they are the only aspect that can be constructed by design. However, it is obvious that the informal aspects of independence are also very important, especially to examine the consequences of IRAs instead of their origins. In effect, many of their alleged benefits, such as more credible regulatory commitments, follow from de facto rather than mere formal independence. Like beauty, credibility is in the eyes of the beholder. Although formal institutions influence behavior, in the end regulators are believed to be credible as a result of their actions, and not just because of their formal organization. To examine de facto independence, some studies have looked at the politicization of appointments and at revolving-door practices, that is, at

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movements of staff from regulatees to regulators (and back) (Thatcher, 2002b, 2005). A significant advance has recently been made by Maggetti (2007), whose sophisticated operationalization of de facto independence compares 15 regulators in Western Europe. In addition to indicators such as revolving door, politicization and structural characteristics, Maggetti looks into the internal policy cycle of regulators, and measures the extent to which both political principals and regulatees participate in the different stages (impulsion, draft preparation, consultations, decision, monitoring, sanctioning). The more that regulatees or politicians are involved in the decision-making process, the less the agency is de facto independent. Regulators are compared through a qualitative comparative analysis (fs/QCA), which does not rely on a correlational logic, but rather on the ideas of necessity and sufficiency (Ragin, 2000). The findings are intriguing. First, formal independence is neither necessary nor sufficient for de facto independence. In other words, some regulators that are formally highly independent are not de facto independent, and not all those that enjoy high de facto independence are formally highly independent. By contrast, an institutional context characterized by many veto players is a necessary condition for high de facto independence. This result is in line with Tsebelis’ (2002) expectations of the ‘behavioral’ autonomy of bureaucracy: the greater the number of veto players, the more difficult it is for them to agree on sanctioning misbehavior, which makes the administrative agents more independent, keeping formal institutions constant. The age of the regulator is also a necessary condition for de facto independence: agencies that have just been established have difficulty keeping politicians at a distance, whether they are formally independent or not. However, de facto independence from regulatees depends on the integration of agencies in European networks: regulators have problems keeping regulated firms at a distance unless they participate in networks of agencies at the European level. Work on the informal aspects of independence is important. If, as Maggetti (2007) shows, the real independence of regulators is quite unrelated to the formal aspects, then one could question the trend towards greater regulatory autonomy, since it does not seem to matter much. The decisive test in this respect, however, would be to examine the link between formal and informal independence on the one hand, and regulatory outcomes on the other. Does formal independence lead to better outcomes, or are informal aspects more relevant? This important question is still unanswered. The proliferation of independent agencies also has consequences on state structures, and especially on their fragmentation. With the spread of this model, public authority is dispersed among institutions. The consequences

136


of this process are only imperfectly understood. Two scenarios can be identified, depending on whether independent regulators are related to other decision-making institutions in a serial or parallel way (Fischer, 2005). If institutions are linked serially, decisions can be taken only if all institutions approve them: serial institutions are a chain of veto points. If institutions are parallel, by contrast, several organizations have the authority of taking a valid decision, and the other organizations do not constitute veto points. If independent regulators enter the decision-making process as serial institutions they reinforce stability, because they constitute additional veto points. However, if they are parallel institutions, as Fischer (2005) argues, they create an additional opportunity for policy change. Fischer (2005) shows that, under the strict assumption that the different parallel institutions decide independently of each other, the presence of independent regulators always gives an advantage to reformers. Even when the assumption is relaxed, the presence of several decision-making avenues still favors reformers, since these can, for example, try to obtain change through parliament if their efforts with the independent agency fail. Generally, the presence of parallel institutions multiplies the chances of change. These hypotheses are confirmed by Fischer’s (2005) empirical analysis of the opening of the last mile in Swiss telecoms, which shows that the ordinary law-making process lost some importance as a result of the establishment of an independent regulator, since pro-reform forces found it convenient to foster policy change through the agency rather than through parliament. The conceptualization of IRAs as parallel institutions highlights some of the consequences on regulatory decision making of the fragmentation introduced by increased delegation. The findings on the Swiss case call for comparative work in this direction. This book has contributed to our understanding of how policy choices are interdependent and how policies can spread across countries. While this is a central issue in comparative politics, which has been known for a long time under the label ‘Galton’s problem’ (see for example Ross and Homer, 1976; Przeworski and Teune, 1970. 51–3), it has only recently been the object of systematic analysis. Although a number of approaches deal with these issues, including the policy convergence and policy transfer literatures, the recent diffusion literature discussed in Chapter 5 has a number of advantages. First, it acknowledges that diffusion-like patterns can emerge even in the absence of any cross-national interdependence, provided that many countries react similarly to concomitant common pressures. A central concern of this literature is therefore to assess the extent to which diffusion is a result of interdependencies and not to common pressures. Second, the diffusion approach identifies several mechanisms that can drive policy diffusion. Unlike in other approaches, all these mechanisms are

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explicitly grounded in the idea that actors’ behavior is interdependent, although each mechanism presupposes a different kind of interdependence. To further appreciate the added value of the diffusion perspective, it is useful to relate it to the ‘convergence and diversity’ debate (see for example Bennett, 1991; Unger and van Waarden, 1995; Lütz, 2004; Radaelli, 2005; Holzinger and Knill, 2005; Tenbücken and Schneider, 2004). The convergence literature has amply demonstrated that true or full convergence is a highly unlikely outcome. Instead, most studies are bound to find some sort of ‘convergence within national diversity’ (Lütz, 2004) or ‘divergent convergence’ (Tenbücken and Schneider, 2004). Similar conclusions have been reached by studies in the Europeanization literature that have focused on the consequences of European integration on Member States (see for example Green Cowles et al., 2001; Knill and Lenschow, 2005; Herrmann, 2005; Pedersen, 2006). All these studies stress that even though similar reforms are adopted in different countries, diversity persists. This finding has two causes. First, and quite trivially, the convergence/divergence issue is often a matter of detail: some convergence is found at a general level, but differences continue to be observed at a more detailed level. Given some convergence, some divergence can always be found as long as one looks into sufficient detail. Second, and more importantly, the literature has convincingly shown that whatever the pressures for convergence, national institutions, actor constellations, and policy legacies matter, mediate the pressures, and influence the final outcome. Given the consistency of these findings, it is questionable whether convergence should be the primary focus of diffusion studies. Moreover, the study of convergence takes policy change, not similarities as dependent variables. In the ‘beta-convergence’ approach advocated by Plümper and Schneider (2007), convergence is tested by including in the analysis of policy change the starting point. If there is convergence to the mean, then the distance from the mean at time t1 is positively related to the amount of policy change between time t1 and time t2 (see Chapter 5). The starting point is here one variable among others. The analysis should probably include country-specific factors, common international pressures, and also various forms of interdependencies if diffusion mechanisms are deemed relevant. But in such an analysis, what is studied is not really convergence, but the factors that explain policy change over time. Of course, if policy change can be explained, then convergence must be explained: we know why countries have changed policies in ways that have made them more alike. And this is precisely the point: conclusions about convergence come as byproducts of analyses that are not focused on convergence, but on policy change. To close the argument, we should reiterate that one of the sources of policy change can be diffusion, namely the fact that countries

138


are interdependent and influence one another. To sum up, a diffusion perspective permits explanation of policy change and, as a result, also convergence (if there is convergence). The diffusion approach subsumes convergence: it can explain everything that the convergence approach does, and more: policy change trajectories and not only increasing similarity. The diffusion perspective is promising but much more work is needed. A number of important issues remain unclear. In the context of IRAs, a first point pertains to the nature of the diffusion process. This book has shown that emulation matters: independent regulatory agencies have spread in part because they have become legitimate and socially valued institutions, regardless of their actual consequences on regulation. However, emulation was operationalized in a crude way. Although the share of previous adopters has been widely used as an indicator of emulation in the sociological literature, it is clear that it is not very accurate. In addition, emulation was the only diffusion mechanism included in the analysis, but before concluding that the diffusion of independent regulators follows a social rather than rational logic, learning should be seriously tested. This is not easy, because it presupposes the identification of the relevant outcomes against which the success or failure of independent agencies can be assessed. If relevant outcomes are identified and measured, then several analytical strategies can be employed to test the learning hypothesis (see Meseguer, 2006a, 2006b; Elkins et al., 2006; Lee and Strang, 2006; Gilardi et al., 2007). Knowing whether emulation or learning has driven the diffusion of independent regulators is important not only for analytical purposes, but also to draw normative conclusions. Independent regulators are now everywhere; but is it a good or a bad thing? Part of the answer rests on the mechanisms that have resulted in their spread. If governments have observed that better regulatory outcomes follow from the establishment of independent agencies and have therefore adopted them, then we might welcome efforts from the OECD and the European Union to promote this model of regulatory governance. But if independent agencies have diffused because they have become a socially valued and legitimate model that makes governments’ actions look modern and appropriate, but their consequences are not very positive, then we should be more cautious in ruling out alternative forms of organization for regulatory policies. A final issue is how independent regulators will evolve. Some authors have argued that independent agencies are the institutional foundations of a new order that has been institutionalized at the global level (Levi-Faur, 2005b). However, the presence of many factors of persistence does not rule out the possibility of change. On the basis of this research, two drivers of change can be identified. The first are functional pressures: as they change, so can delegation to patterns. Credibility and political uncertainty pressures are

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not constant over time, and although changes may not be immediately translated into new delegation arrangements, significant alterations in their importance can be expected to lead, eventually, to a reconsideration of the formal independence of regulators. The possibility that an independent agency will be terminated can also not be discarded. Lewis (2002; see also Lewis, 2004; Carpenter and Lewis, 2004), for example, studied US agencies between 1946 and 1997 and found that more than 60 per cent were terminated, mainly as a result of political turnover, which can be ascribed to political uncertainty. Second, the changing nature of the diffusion process can also be a cause of a trend reversal. Independent regulators are now widespread, and they are somewhat taken for granted as an appropriate way to organize regulatory policy, but should a sizeable number of countries embrace a new model, or go back to regulation through ministries, a diffusion of the new arrangements can be expected, due notably to emulation. Admittedly, this is not likely to occur anytime soon, but in the longer term such a change is entirely possible. Alternatively, if learning has also mattered for the diffusion of independent agencies, negative outcomes in some country could lead other countries to revise their beliefs on the desirability of this model, and perhaps eventually to discard it. It would not be the first time we observe waves of policies. Utilities are a case in point: they first underwent a wave of nationalization, then a wave of privatization. The same kind of waves could also characterize regulatory institutions. Independent regulators are now widespread, but whether they are here to stay is an open question.

NOTES 1. ‘Telekom-Regulierer erhält auch Aufsicht über Energiemarkt’, Frankfurter Allgemeine Zeitung, 2 September 2003, p. 11. 2. ‘Der Große Regulierer’, Frankfurter Allgemeine Zeitung, 2 September 2003, p. 11. 3. http://www.bundeswahlleiter.de/. The precise calculus is complicated by the fact that in 2002 the number of seats in the Bundestag was reduced. 4. http://www.statistik.bayern.de/. 5. Directive 2003/54/EC concerning common rules for the internal market in electricity and repealing directive 96/92/EC.

8.

Appendices

APPENDIX 1

THE FORMAL INDEPENDENCE OF REGULATORS: INDEPENDENCE INDEX Weight

Coding

0.20

A. Status of the agency head Term of office over 8 years 6 to 8 years 5 years 4 years fixed term under 4 years or at the discretion of the appointer no fixed term Who appoints the agency head? the members of the management board a complex mix of the parliament and the government the parliament the government collectively one or two ministers Dismissal dismissal is impossible dismissal is possible, but only for reasons not related to policy there are no specific provisions for dismissal dismissal is possible at the appointer’s discretion

1.00 0.80 0.60 0.40 0.20 0.00 1.00 0.75 0.50 0.25 0.00 1.00 0.67 0.33 0.00

May the agency head hold other offices in government? no only with the permission of the government yes/no specific provisions

1.00 0.50 0.00

Is the appointment renewable? no yes, once yes, more than once

1.00 0.50 0.00 140

141

Appendices

Weight Is independence a formal requirement for the appointment? yes no B. Status of the members of the management board

Coding 1.00 0.00

0.20

Term of office over 8 years 6 to 8 years 5 years 4 years fixed term under 4 years or at the discretion of the appointer no fixed term

1.00 0.80 0.60 0.40 0.20 0.00

Who appoints the members of the management board? the head of the agency a complex mix of the parliament and the government the parliament the government collectively one or two ministers

1.00 0.75 0.50 0.25 0.00

Dismissal dismissal is impossible dismissal is possible, but only for reasons not related to policy there are no specific provisions for dismissal dismissal is possible at the appointer’s discretion

1.00 0.67 0.33 0.00

May the members of the management board hold other offices in government? no only with the permission of the government yes/no specific provisions

1.00 0.50 0.00

Is the appointment renewable? no yes, once yes, more than once

1.00 0.50 0.00

Is independence a formal requirement for the appointment? yes no

1.00 0.00

C. Relationship with government and parliament Is the independence of the agency formally stated? yes no

0.20 1.00 0.00

142


Weight What are the formal obligations of the agency vis-à-vis the government? there are no formal obligations presentation of an annual report for information only presentation of an annual report that must be approved the agency is fully accountable to the government

1.00 0.67 0.33 0.00

What are the formal obligations of the agency vis-à-vis the parliament? there are no formal obligations presentation of an annual report for information only presentation of an annual report that must be approved the agency is fully accountable to the parliament

1.00 0.67 0.33 0.00

Which body, other than a court, can overturn the decisions of the agency where the latter has exclusive competence? no body a specialized body the government, with qualifications the government, unconditionally D. Financial and organisational autonomy What is the source of the agency’s budget? fees levied on the regulated industry both the government and fees levied on the regulated industry the government

Coding

1.00 0.67 0.33 0.00 0.20 1.00 0.50 0.00

How is the budget controlled? by the agency by the accounting office or court by both the agency and the government by the government only

1.00 0.67 0.33 0.00

Which body decides on the agency’s internal organization? the agency both the agency and the government the government

1.00 0.50 0.00

Which body is in charge of the agency’s personnel policy (hiring and firing staff, deciding on its allocation and composition)? the agency both the agency and the government the government

1.00 0.50 0.00

143

Appendices

Weight E. Regulatory competencies Which body is competent for regulation in the relevant domain? the agency only the agency and another independent authority the agency and the parliament the agency and the government the agency has only consultative competencies Source: Adapted from Gilardi (2002).

Coding

0.20

1.00 0.75 0.50 0.25 0.00

144


APPENDIX 2

THE FORMAL INDEPENDENCE OF REGULATORS: DATA

This appendix presents the independence values of regulators along the five dimensions of the independence index, as well as the overall independence score. Data have been collected through questionnaires sent to regulators’ officials. Country

Sector

A

B

C

D

E

Austria Austria Austria Austria Austria Austria Austria

Competition Electricity Environment Financial markets Food safety Pharmaceuticals Telecom

Belgium Belgium Belgium Belgium Belgium Belgium Belgium

Indep.

0.38 0.21 0.42

0.59 0.17 0.21

0.75 0.17 0.84

0.92 0.88 0.88

1.00 0.00 0.00

0.73

0.56

1.00

1.00

0.25


0.48 0.68

0.31 0.68

0.67 0.84

0.50 0.83

0.25 0.75

0.34 0.35

0.34 –

0.75 0.67

0.92 0.50

0.00 0.25

0.36

0.36

0.50

0.33

0.25

Denmark Denmark Denmark Denmark Denmark Denmark Denmark


0.18 0.40 0.17

0.06 0.40 0.13

0.50 0.84 0.08

0.75 0.38 0.50

0.50 1.00 0.25

0.13 0.15

– 0.28

0.42 0.75

0.75 0.63

1.00 0.75

Finland Finland Finland Finland Finland Finland Finland


0.29 0.10

0.42 –

0.75 0.92

0.63 0.75

0.25 0.75

0.10 0.45

0.21 0.61

0.92 0.92

0.92 0.63

0.25 0.00

0.32

–

0.92

0.88

0.25

0.47 0.63 0.00 0.48 0.52 n.a. 0.59

France France France France France France France


0.51 0.79 0.17 0.68 0.41 0.41 0.84

0.34 0.87 0.31 0.25 0.20 0.13 0.88

0.92 0.59 0.67 0.84 0.67 0.50 0.59

0.63 0.67 0.63 1.00 0.58 0.58 0.67

0.25 0.25 0.00 0.25 0.00 1.00 0.25

0.53 0.63 0.35 0.60 0.37 0.52 0.65

0.00 0.73 0.28 0.47 0.00 0.00 0.71 0.44 0.75 0.00 0.47 0.44 0.00 0.36 0.40 0.60 0.22 n.a. n.a. 0.57 0.51

145

Appendices

Country

Sector

Germany Germany Germany Germany Germany Germany Germany


Greece Greece Greece Greece Greece Greece Greece


Ireland Ireland Ireland Ireland Ireland Ireland Ireland


Italy Italy Italy Italy Italy Italy Italy


Luxembourg Luxembourg Luxembourg Luxembourg Luxembourg Luxembourg Luxembourg


Netherlands Netherlands Netherlands Netherlands Netherlands Netherlands Netherlands


A

B

C

D

E

Indep.

0.26

0.26

0.67

0.00

0.75

0.10

0.10

0.25

1.00

0.25

0.22 0.26

0.22 0.39

0.25 0.67

0.38 0.33

0.00 0.75

0.39 0.00 n.a. 0.34 0.00 0.21 0.48

0.75

0.63

0.92

0.54

0.00

0.72 0.57 0.38 0.75

0.51 0.59 0.26 0.59

0.84 0.33 0.75 0.84

0.63 0.25 0.13 0.54

0.25 0.25 0.00 0.25

0.38 0.40 – 0.45 0.62

0.55 – 0.59 0.27 0.35

0.67 0.67 0.84 0.59 0.25

0.25 0.75 0.88 1.00 0.25

0.25 1.00 0.25 1.00 0.25

0.55

–

0.75

1.00

1.00

0.87

0.87

0.84

0.92

0.25

0.61

0.65

0.92

0.79

0.25

0.73

0.77

0.92

0.88

0.25

0.51

0.38

0.42

0.88

1.00

0.35 0.06

0.18 0.06

0.25 0.50

0.50 0.71

1.00 1.00

0.28

0.28

0.83

1.00

0.25

0.16 0.51

0.16 0.51

0.75 0.83

0.38 1.00

0.75 0.25

n.a. 0.57 0.00 0.59 0.40 0.30 0.59 0.42 0.70 0.64 0.66 0.34 n.a. 0.83 n.a. 0.75 n.a. 0.64 0.00 0.00 0.71 0.00 n.a 0.00 0.63 0.00 0.00 n.a. 0.46 0.46 n.a. 0.53 n.a. 0.44 0.62

146


Country

Sector

A

B

C

D

E

Indep.

Norway Norway Norway Norway Norway Norway Norway


0.43 0.58 0.54 0.65

– – 0.45 0.25

0.25 0.08 0.58 0.17

0.63 0.88 0.63 0.88

0.25 0.25 0.25 0.25

0.43 0.31

– –

0.33 0.67

0.63 0.88

1.00 0.25

0.39 0.45 0.49 0.44 n.a. 0.60 0.52

Portugal Portugal Portugal Portugal Portugal Portugal Portugal


0.20 0.66

0.20 0.67

0.33 0.78

0.38 0.88

0.25 0.25

0.59

0.59

0.83

0.88

0.25

0.26 0.75

0.26 0.75

0.58 0.75

0.75 0.88

0.25 1.00

Spain Spain Spain Spain Spain Spain Spain


0.50 0.40

0.50 0.40

0.83 0.42

0.63 0.75

0.25 0.25

0.59

0.59

0.83

0.88

0.25

0.21 0.70

0.33 0.70

0.50 0.84

0.50 0.79

0.25 0.25

0.54 0.44 0.00 0.63 0.00 0.36 0.66

Sweden Sweden Sweden Sweden Sweden Sweden Sweden


0.34 0.40 0.45 0.54 0.51 0.43 0.62

0.32 0.13 0.21 0.49 0.04 0.38 0.30

0.75 0.75 0.33 0.92 0.83 0.83 0.92

0.63 0.75 0.50 0.50 0.75 0.83 0.71

0.00 1.00 0.25 0.25 0.25 1.00 –

0.41 0.61 0.35 0.54 0.48 0.69 0.64

Switzerland Switzerland Switzerland Switzerland Switzerland Switzerland Switzerland


0.50

0.33

0.67

0.50

0.25

0.33

0.33

0.50

0.50

0.75

0.11 0.41

0.12 0.33

0.75 0.92

0.88 0.63

0.25 0.25

0.45 0.00 0.00 0.48 0.00 0.42 0.51

UK UK UK UK UK UK UK


0.35 0.66 0.10 0.31 0.57 0.38

0.25 0.26 0.20 0.31 0.61 –

0.59 0.58 0.50 0.67 0.50 0.84

1.00 0.75 1.00 0.50 0.83 1.00

1.00 0.25 1.00 0.25 1.00 0.75

n.a. 0.64 0.50 0.56 0.41 0.70 0.74

0.27 0.65 0.00 0.63 0.00 0.42 0.83

Appendices

APPENDIX 3

147

POLITICAL UNCERTAINTY: OPERATIONALIZATION

Political uncertainty is defined as the risk of a government being replaced by a new government with different preferences. Following Franzese (2002b), I operationalize replacement risk as the product of the hazard rate and the standard deviation of the partisan ‘center of gravity’ of governments across a number of years. The hazard rate is operationalized as the inverse of actual duration of governments. Therefore, the higher the duration, the lower the hazard rate will be. Raw data on the actual duration of governments is taken from Woldendorp et al. (2000), who give the duration in days of each government from about 1945 to 1998. Data for more recent governments is taken from various publications, including ‘Political Data Yearbook’ in the European Journal of Political Research, as well as from several online sources, mainly the BBC’s ‘country profiles’1 and The Economist’s ‘Country Briefings’.2 The units of the raw data are governments. For example, Woldendorp et al. (2000) report that Germany’s 22nd post-war government began on 30 March 1983 and lasted 1442 days. The relevant units for my purposes are years, so the data must be transformed. I first converted the duration from days into years by dividing it by 365, and then calculated its inverse (1/duration in years). There is a problem dealing with years in which there is a change of government. I follow Franzese (2002b) and take the mean of the duration of the governments that were in place during that year, weighted by the share of the year that each held office. For example, in France there was a change of government on 28 June 1988. The hazard rate for 1988, then, is 50 per cent of that of the first government and 50 per cent of that of the second. For attributing weights, I have considered only months and not days. Months are attributed to a given government if it was in office for at least 15 days of that month. The center of gravity of governments is measured following Woldendorp et al. (2000), who, in their data-set, have a variable called ‘ideological complexion of government and parliament’, which accounts for the relative strength of parties in government with reference to the left-right dimension, through a five-point scale in which the proportional shares of left, center and right parties are coded 1 to 5. Scores represent the degree of dominance of either party, both in parliament and government (1 is right-wing and 5 is left-wing dominance). This is admittedly a rough measure, but for present purposes, I prefer it to alternative, more refined measures such as that of Budge et al. (2001). These authors have developed measures based on party manifestos and collected an impressive data-set with detailed information on the policy preferences of parties over 50 years. Using these data to measure the center of gravity of government, however, is problematic, since

148


the policy positions of parties may change over time; in fact, they often do change, sometimes dramatically. This can lead to the paradoxical result that replacement risk increases (through center of gravity) even though there has been no party change in government. Second, there is the problem of the appropriate standard deviation of the center of gravity. Franzese (2002b) uses a moving nine-year standard deviation centered on the present. This implies that governments base their estimates on the experience of the previous four years as well as on perfect foresight four years ahead. The idea is that governments are not fully backward-looking, but make some guesses about how their re-election prospects will evolve in the near future. I retain this assumption, but I use a sevenyear standard deviation with five years back and one forward, mainly because including many years forward would prevent me from taking most of the 1990s into account. On the other hand, I wanted to retain the assumption that governments make guesses about their fate in the near future. Assuming that they can see one year ahead seems reasonable.

NOTES 1. http://news.bbc.co.uk/2/shared/bsp/hi/country_profiles/html/default.stm. 2. http://www.economist.com/countries/.

149

Appendices

APPENDIX 4

INDEPENDENT REGULATORY AGENCIES: DATES OF CREATION AND OF START OF OPERATIONS

Country

Sector

Austria Austria Austria Austria Austria Austria Austria Belgium Belgium Belgium Belgium

Competition Electricity Environment Financial services Food safety Pharmaceuticals Telecoms Competition Electricity Environment Financial services

Belgium Belgium Belgium Denmark Denmark Denmark Denmark Denmark Denmark Denmark Finland Finland Finland Finland Finland Finland Finland France France France France

Food safety Pharmaceuticals Telecoms Competition Electricity Environment Financial services Food safety Pharmaceuticals Telecoms Competition Electricity Environment Financial services Food safety Pharmaceuticals Telecoms Competition Electricity Environment Financial services

France France France Germany Germany Germany

Food safety Pharmaceuticals Telecoms Competition Electricity Environment

Date of creation

Start of operations

2000 1985 (reform in 1998) 2001

2001 1985 2002

1997 1991 1999

1997 1993 2000

1934 (major reform in 1990) 2000 1991 1989 1999 1972 1988 1997 2002 1988 1995 1993 2001 1993 1987 1986 2000 1990 1967 (major reform in 1996) 1998 1988 1996 1957

1993 1990 2000 1972 1997 1997 2002 1988 1995 1993 2001 1993 1988 2000

1999 1999 1997 1958

150


Country

Sector

Date of creation

Start of operations

Germany Germany Germany Germany Greece Greece Greece Greece Greece Greece Greece Ireland Ireland Ireland Ireland Ireland Ireland Ireland Italy Italy Italy Italy Italy Italy Italy Luxembourg Luxembourg Luxembourg Luxembourg Luxembourg Luxembourg Luxembourg Netherlands Netherlands Netherlands Netherlands Netherlands Netherlands Netherlands Norway Norway Norway Norway Norway

Financial services Food safety Pharmaceuticals Telecoms Competition Electricity Environment Financial services Food safety Pharmaceuticals Telecoms Competition Electricity Environment Financial services Food safety Pharmaceuticals Telecoms Competition Electricity Environment Financial services Food safety Pharmaceuticals Telecoms Competition Electricity Environment Financial services Food safety Pharmaceuticals Telecoms Competition Electricity Environment Financial services Food safety Pharmaceuticals Telecoms Competition Electricity Environment Financial services Food safety

2002

2002

1994 1996 1977 2000

1994 1998 1979 2000

1967 1999 1983 1992 1991 1999 1992 1942 1998

2000 1983 1995 1992 1999 1993 1943 1999

1996 1990 1995 1994 1974

1997 1990 1997 1994 1975

1997

1998

2000

2000

1998

1998

1997 1997 1998 1996 2002

1997 1998 1998

1963 1997 1994 1921 1974 1985

1963 1997 1994

2002

1974 1986 1988

151

Appendices

Country

Sector

Date of creation

Start of operations

Norway Norway Portugal Portugal Portugal Portugal

Pharmaceuticals Telecoms Competition Electricity Environment Financial services

2001 1986 1996 1995

1987 1998 1997

Portugal Portugal Portugal

Food safety Pharmaceuticals Telecoms

Spain

Competition

Spain Spain Spain Spain Spain Spain Sweden Sweden Sweden Sweden Sweden Sweden Sweden Switzerland Switzerland Switzerland Switzerland

Electricity Environment Financial services Food safety Pharmaceuticals Telecoms Competition Electricity Environment Financial services Food safety Pharmaceuticals Telecoms Competition Electricity Environment Financial services

Switzerland Switzerland Switzerland UK UK

Food safety Pharmaceuticals Telecoms Competition Electricity

UK UK UK UK

Environment Financial services Food safety Pharmaceuticals

UK

Telecoms

1991 (major reform in 1999) 1993 1981 (major reform in 2001) 1989 (major reform in 1996) 1998

1993 1989

1999

1988 (reform in 1998) 1997 (reform in 1998) 1996 1991 1998 1967 (reform in 2002) 1972 1990 1992 (reform in 1993) 1995

1997 1992 1998 1969 1972 1990 1996

1934 (reforms in 1967 and 1997) 2000 1997 1973 1989 (merger with Ofgas 2000) 1995 2000 1999 1989 (reforms in 1991, 1993, 1997) 1984

2002 1997 1973 1990 1996 2001 2000 1989 1984

152


APPENDIX 5

UTILITIES PRIVATIZATION AND LIBERALIZATION: DATA Telecoms

Electricity

Liberalization

Privatization

Liberalization Privatization

Austria Belgium Denmark Finland France Germany

1995, 1996, 1998 1996, 1998 1992, 1996 1992, 1993 1989, 1998 1991, 1998

1998 1995 1992, 1998 1998 1997 1996, 2000

n.a. – 1996 1995 – 1998

Greece Ireland Italy Luxembourg Netherlands Norway Portugal Spain Sweden Switzerland United Kingdom

1993, 2001 1998 1994, 1998 1998 1995, 1997 1992, 1998 1991, 2000 1994, 1998 1986, 1992, 1994 1998

1995 1996, 1997, 1999 1997, 1998 – 1994, 2000 2000 1995 1997 2000 1998

– – – n.a. 1989 1990 – 1994 1996 –

1988 n.a. – – – 1965, 1984, 1990 – – 1999 n.a. 1999 – 1997, 2000 1988, 2000 1991, 1996 –

1984, 1985, 1986 1981, 1984, 1993 1990

1991, 1995

Sources:

Steiner (2000), Boylaud and Nicoletti (2000), Levi-Faur (2003).

Appendices

APPENDIX 6

153

EU LEGISLATION AND THE ESTABLISHMENT OF INDEPENDENT REGULATORY AGENCIES IN TELECOMS AND ELECTRICITY

I have examined several pieces of EU legislation in the seven regulatory domains included in the analysis. As expected, most references to independent regulatory agencies were in legislation on utilities regulation. The following lists display all pieces of European legislation for electricity and telecoms that are potentially relevant for the establishment of independent regulatory agencies. The only three pieces of legislation that include explicit provisions on independent regulators are Directive 96/92 (common rules for the internal market in electricity), Directive 92/44 (application of open network provisions to leased lines), and especially Directive 97/51 (amending directives 90/387 and 92/44 for the purpose of adaptation to a competitive environment in telecommunications). In fact, the electricity directive does not really mention independent regulators, but I have decided to select it because it is commonly believed that EU legislation was important for promoting independent regulatory agencies also in the electricity sector, and directive 96/92 is the one that comes closest to an explicit recommendation. Electricity ● ● ● ● ● ● ●

●

Dir. 90/377 (Community procedure to improve the transparency of gas and electricity prices charged to industrial end-users) Dir. 90/547 (transit of electricity through transmission grids) Dir. 91/296 (transit of natural gas through grids) Dir. 93/76 (limit carbon dioxide emissions by improving energy efficiency) Dir. 94/22 (conditions for granting and using authorizations for the prospection, exploration and production of hydrocarbons) Dir. 96/92 (common rules for the internal market in electricity) Reg. 736/96 (notifying the Commission of investment projects of interest to the Community in the petroleum, natural gas and electricity sectors) Dir. 98/30 (common rules for the internal market in natural gas)

Telecoms ●

Comm. Dir. 88/301 (competition in the markets in telecommunications terminal equipment)

154 ● ● ● ● ● ● ● ● ● ● ● ● ● ●

● ● ● ● ● ●

●


Dir. 90/387 (establishment of the internal market for telecommunications services through the implementation of open network provisions) Dir. 90/388 (competition in the market for telecommunications services) Dir. 90/544 (frequency bands for pan-European land-based public radio paging) Dir. 91/263 (approximation of the laws of the Member States concerning telecommunications terminal equipment) Dir. 91/287 (frequency band for digital European cordless telecommunications) Dir. 92/44 (application of open network provision to leased lines) Dir. 93/97 (supplementing Dir. 91/263 in respect of satellite earth station equipment) Comm. Dir. 94/46 (amending Dir. 88/301 and Dir. 90/388 in particular with regard to satellite communications) Dir. 97/51 (amending Dir. 90/387 and 92/44 for the purpose of adaptation to a competitive environment in telecommunications) Dir. 95/62 (application of open network provisions to voice telephony) Comm. Dir. 96/2 (amending Dir. 90/388 with regard to mobile and personal communications) Comm. Dir. 96/19 (amending Dir. 90/388 with regard to the implementation of full competition in telecommunications market) Dir. 97/13 (common framework for general authorizations and individual licenses in the field of telecommunications services) Dir. 97/33 (interconnection in telecommunications with regard to ensuring universal service and interoperability through application of the principles of the open network provision) Dir. 98/13 (telecommunications terminal equipment and satellite earth station equipment) Dir. 98/61 (amending Dir. 97/33 with respect to operator number portability and carrier pre-selection) Dir. 2002/19 (access to, and interconnection of, electronic communications networks and associated facilities) (Access Directive) Dir. 2002/20 (authorization of electronic communications networks and services) (Authorization Directive) Dir. 2002/21 (common regulatory framework for electronic communications networks and services) Dir. 2002/22 (universal service and users’ rights relating to electronic communications networks and services) (Universal Service Directive) Dec. 676/2002 (regulatory framework for radio spectrum policy)

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Index accountability 25, 26 adverse selection problem 29 Aid to Families with Dependent Children program, US 48 Alesina, Alberto 49 ally principle, violation 58 anchoring 94 Autorité des marches financiers 110 availability heuristic 94 Bailey, Michael A. 89 Baldwin, Robert 14 Banca Antonveneta 57 Baybeck, Brady 88 Bayesian learning 92, 94 Belgium electricity regulation 131 telecoms regulation 132 Berry, Frances Stokes 87 Berry, William D. 87, 88–9 beta convergence 77, 78, 137 births and deaths, organizations 85 bounded learning 93–6 Braun, Dietmar 99 Britain see United Kingdom Bundeskartellamt (German competition authority) 57, 72, 128–9 bureaucracy 135 bureaucratic drift 29 Caldwell, Michael 54 California effect, environmental regulation 97 capitalism, regulatory see regulatory capitalism capture thesis 16 Carroll, Glenn R. 84, 86 central banks 51, 57, 67–70 Children’s Health Insurance Programs, diffusion 89 COB (Commission des opérations de bourse) 110

coercive isomorphism 80 cognitive pillar of institutions 83 cognitive shortcuts see anchoring, availability heuristic, representativeness competition 88–9, 96–8, 97 consociational democracy 127 convergence 77–82, 81 beta 77, 78, 137 and diffusion 77 mechanisms 79 sigma 77 and single regulatory state model 19 S-shaped curves 76 credibility and delegation 30–46, 58, 60 formal independence, variations 58 motivational and imperative 44 as political asset 38–44 problematic nature of 53 Cukierman, Alex 8, 49 Cukierman index 8, 69 Czada, Roland 15 de facto independence 135 de Figueiredo, Rui J. P. 47, 48, 52, 54 delegation to IRAs 28–53 case studies 126–34 and credibility 30–46, 58, 60 formal independence of regulators, empirical analysis 55 in Germany 72 implications/further research issues 134–9 interdependent 73–104 investment game 40, 41, 43 lessons learned 124, 126 policy transfer 80–81 and political uncertainty 46–50, 124–5 principal-agent explanation, limits 29–30

181

182

Index

reasons for 21 specificity of 30 time-inconsistency problem 31–8 in United Kingdom 72 and veto players 50–52 deregulation 17 dictators 49 diffusion 9, 81 adoption patterns 74, 75, 76 competition 96–8 and convergence 77 cross-national/cross-sectoral 101 defined 76 emulation 98–9 horizontal nature of 89 interdependent 121 model of, towards 99–100 regulatory agencies, independent 100–104, 106–23, 110–22 thresholds model 74 ‘within-country’ channel 101 ‘within-sector’ channel 101 see also diffusion literature diffusion literature 82–90 American federalism 87–90 bounded learning 93–6 in political science 90–100 rational learning 91–3 DiMaggio, Paul J. 79–80 discount function 35, 36, 42 hyperbolic 37 Dolowitz, David P. 81–2 dyadic event-history analysis 89 Eberlein, Burkard 19 economic regulation 15 electricity regulation 127–31 Elkins, Zachary 91, 97 empirical analysis data and methods 110–13 dependent variables 63, 65 diffusion of IRAs 106–23 formal independence of regulators 55–72 Heckman model 63, 64 regression coefficients 65 Tobit model 63, 64 EMU (European Monetary Union) 68 emulation 80, 98–9, 102, 103, 112 energy market regulation 129

equilibrium time-inconsistency subsidy game 34–5 EU (European Union) 25, 109, 113, 121, 122, 126 Europe 18–20, 44 Latin America compared 20–21 European Monetary Union (EMU) 68 European Union (EU) 25, 109, 113, 121, 122, 126 event-history analysis 89, 90 expropriation 43–4 external effects 88 Fazio, Antonio 57 federalism, American 87–90 Finland food safety regulation 110 telecoms regulation 132 Finnemore, Martha 99 Fischer, Alex 136 fixed exchange-rate regimes 53 formal independence average values 59 bivariate relationships 62 case studies 128 data 58, 144–6 and de facto independence 135 index of 56–7, 140–44 measuring 56–8 operationalization 8 political uncertainty 60, 61 and replacement risk 63 statistical analysis 64 variations in 58–67 veto players 62–3, 66 France monopolies, pricing policies 19 regulator in 21, 110 regulatory institutions in 19–20 replacement risk 60 Franzese, Robert J. 60, 68, 69, 148 functional needs 82 Galton, Sir Francis 73 Galton’s problem 72, 73, 136 geographical proximities 90 Germany 2002 election 129, 130 Britain contrasted 24–5 delegation in 72

Index elections in 129 electricity sector 127–31 neo-corporatist tradition 128 Gilardi, Fabrizio 99 Glorious Revolution 39, 51 Goodman, John B. 49 governments, partisan composition changes 60 Granovetter, Mark 74 Guillén, Mauro F. 52, 68, 102 Hannan, Michael T. 84, 86 hazard rate 60 Heckman model 63, 64 Hedström, Peter 90 Henisz, Witold J. 100, 103, 112 heuristics see anchoring, availability heuristic, representativeness higher education 84 Holzinger, Katharina 79 hyperbolic discount function 37 independence, formal see formal independence independent regulatory agencies see regulatory agencies, independent index of formal independence 56–7, 140–44 industrial pollution 16 insulation 47 interest groups 54 internal dynamics 82 international harmonization 80 International Monetary Fund 93 intertemporal utility function 35 investment game 40, 41, 43 IRAs see regulatory agencies, independent Italy replacement risk 60 telecoms regulation 134 Jordana, Jacint 101 Kahneman, Daniel 95 Keefer, Philip 51 Keynesian state model 19 Knill, Christoph 79 Kraatz, Matthew S. 86–7

183

Kuhn, Thomas Samuel 95 Kydland, Fin E. 32 Latin America 101 Europe compared 20–21 learning 89 Bayesian 94 bounded 93–6 and diffusion 103 and policy diffusion 99–100 rational 91–3, 99 Volden on 89 Lee, Chang Kil 91 legitimacy 25, 83 Levi-Faur, David 14, 101 Levy, Brian 51 liberalization 13, 111, 152 and diffusion 115, 116, 117 Lieberman, Evan S. 126, 127 line-item veto 48 Lohmann, Susanne 49, 51–2, 52 lotteries 87 Lütz, Susanne 15 Maastricht Treaty 1992 68 Maggetti, Martino 57, 135 magic formula 60 magnet hypothesis 88 Majone, Giandomenico 1, 14, 19 March, James G. 82–3, 83 market failures 16 Marsh, David 81–2 May, Peter J. 15 McNamara, Kathleen R. 102 method-of-difference logic 134 Meyer, John W. 83, 84 modeling strategies 88 Moe, Terry M. 46, 47, 48, 49, 52, 54 monopolies, pricing policies 19 moral hazard 29 motivation 87 Müller, Wolfgang C. 18, 130 Nabokov, Vladimir 30, 31 National Food Agency, Finland 110 neighbors, policies of 88, 89, 90 neo-corporatist tradition 128 Netherlands consociational democracy 127 pharmaceutical regulation 131

184

Index

Noll, Roger G. 14 North, Douglass C. 39, 51 Norway, electricity regulation 131 numbers, meaning 75 OECD (Organisation for Economic Co-operation and Development) 2, 102 Olsen, Johan P. 82–3 operationalization 8, 147–8 organizations 82, 98 organizational density 85–6 Pareto efficiency 25 Parsons, Talcott 83 partisanship, government 117 payoffs 99 Peltzman, Sam 13, 16–17 Pindyck, Robert S. 43 Plümper, Thomas 77, 79, 137 policy convergence see convergence policy making, exogenous changes 46 policy stability (winset) 50 policy transfer 80–81, 82 Polillo, Simone 52, 68, 102 political constraints 115, 116 political science, diffusion literature 90–100 political uncertainty comparisons 61 and delegation 46–50, 52, 124–5 in democracies 60 and diffusion 112 hypothesis 118 operationalization 147–8 politicians, regulators compared 56 pollution, industrial 16 Powell, Walter W. 79–80 predicted values 116, 117, 118, 119, 121 preference reversals 35, 37, 40 preferences, time-inconsistent 31–2, 34, 38, 45–6 and non time-consistent 44 Prescott, Edward C. 32 principal-agent model 47, 52 limits to explanations 29–30 privatization 48, 111, 139, 152 Proust, Marcel 30, 35 PTT Ministry, France 22 public interest theory 16

rational learning 91–3, 99 rationalized governance 84 rationalized modern environment 83, 84 reform, regulatory 19 regression coefficients 65 RegTP (German telecoms regulator) 128 regulation broadest view of 14 defined 14–15 economic 15, 72, 107 justification for 16 as key state function 19 Majone on 19 rise in around world 20–21 social 9, 15, 66, 108 theories of 4–8, 15–18 regulatory agencies, independent accountability 25, 26 and central banks 67–70 dates of creation/start of operations 149–51 delegation see delegation to IRAs democratic legitimacy 25 diffusion 100–104, 106–23 explaining 110–22 empirical analysis 55–72 establishment 132, 133 formal independence of see formal independence future trends 138–9 proliferation of 2, 135–6 regulatory state, institutional foundations 21–6 in selected countries and domains 23 social regulation 108 telecoms and electricity 153–4 regulatory capitalism 13, 20–21 regulatory state, institutional foundations 13–27 Europe, rise of regulatory state in 18–20 Keynesian state model 19 regulation/regulatory policies 14–18 regulatory agencies, independent 21–6

Index replacement risk and diffusion 112 and formal independence of regulators 60, 63, 65, 67, 71 impact on delegation 119 low 120 representativeness 93, 94 resources and obstacles 87 Rogers, Everett M. 82 Rom, Mark Carl 89 Rowan, Brian 83 sabotage 47 Salamon, Lester M. 15 Samuelson, Paul 35 saturation period 101 Schelling, Thomas C. 74, 75 Schmidt, Susanne 20 Schmidt, Vivien 20 Schneider, Christina J. 77, 79, 137 scientific paradigm, concept 95 Scott, W. Richard 83 self-binding 47 Serot, Alexandre 19 Shepsle, Kenneth A. 44 Shipan, Charles R. 89–90 sigma convergence 77 Sikkink, Kathryn 99 Simmons, Beth A. 76, 91, 97 social regulation 9, 66, 108 economic distinguished 15 SOEs (state-owned enterprises) 44 Soule, Sarah A. 82 Spain competition authorities 132 electricity regulation 131 spatial econometric techniques 90 Spiller, Pablo T. 43, 51 Spulber, Daniel F. 14–15 S-shaped diffusion curves 73, 74, 75, 76, 107 standard deviation 78, 148 Stasavage, David 51 state-owned enterprises (SOEs) 44 statistical analysis 113–22, 114–15 Stigler, George 13, 16, 17 Strang, David 82, 91 Strotz, R. H. 37 subsidy game 32, 33, 34, 39 Swank, Duane 91

185

Swedberg, Richard 90 Switzerland formal independence measures 60, 65 telecoms regulation 136 symbolic imitation 98, 102 Tabellini, Guido 49 taken-for-grantedness 85, 86, 98, 100, 102, 103 tax competition, as prisoner’s dilemma 96 technical environment 86–7 technocratic decision-making 19 telecommunications 19–20 temporary preferences 35, 37, 40 Thatcher, Mark 21 theory 4–8, 15–18 consociational democracy 127 public interest 16 thresholds 74 time-inconsistency problem 31–8 causes of time inconsistency 30–31 consequences of 38–44 discount functions and temporary preference reversals 37 and political uncertainty 49 preferences 31–2, 34, 38, 45–6 subsidy game 33 Tobit model 63, 64 Tsebelis, George 50, 51, 62, 112, 135 Tversky, Amos 95 unemployment patterns 100 United Kingdom competition authorities 24 delegation to IRAs in 72 formal independence measures 60 Germany constrasted 24–5 Glorious Revolution, England 39, 51 monopolies, pricing policies 19 privatization 48, 152 regulatory agencies/institutions in 19–20, 22–3, 48 telecoms regulation 106 veto players 65 United States administrative agencies 48 Aid to Families with Dependent Children program 48 regulatory tradition 13, 14, 18

186 utilities data 152 in Europe 44 goal of regulation 58 nationalization 139 privatization 139 and social regulation 66 ‘venue shopping’ 25 veto players 115, 125 and central banks 68 and delegation to IRAs 50–52 and formal independence of regulators 62–3, 66, 67

Index and United Kingdom 65 Vogel, Steven 20 Vogelsang, Ingo 51 Volden, Craig 48, 88, 89–90 Weber, Max 83 Weingast, Barry R. 39, 51 Weyland, Kurt 95, 96 Wilson, James 13–14, 17–18 winset (policy stability) 50 Woldendorp, Jaap 112, 147 Wright, Vincent 18 Zajac, Edward J. 86–7

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