Bridging the Gap between ‘Joe Sixpack’ and ‘Bill Gates’: On the Efficiency of Institutions for Redistribution

Abstract

All democracies have implemented institutions that redistribute income from the rich to the poor. Economists tend to have strong views on how this redistribution should be organized, based on the two theorems of welfare economics. However, these views are mostly neglected. I argue that the reason for this neglect is likely to be that these institutions are constrained Pareto-efficient after a century of experimentation. If not, some political bargaining would lead to the implementation of the Pareto-improvement. Hence, economists should concentrate on an explanation of the constrained efficiency of existing institutions instead of on the design of drawing table grand reforms. This approach is applied to three institutions frequently observed in reality: minimum wages, education subsidies, and unemployment insurance. We show that these institutions for redistribution are likely to be constrained efficient. We analyze the impact of the constitutional environment on the implementation of efficient redistribution. Finally, we evaluate the causes for the observed cross-country variation in redistribution.