There Are No Efficient Markets in Politics

We have had a run of extremely close presidential elections, which is a break from the past, which saw the sort of large landslides which are unimaginable now. The notion of any candidate winning by 18 percentage points and winning all but one states, as in 1984, seems impossible. An easy explanation to jump to is a sort of efficient market hypothesis for political parties. The two entities are competing with each other, and they’re both equally capable. We might reasonably expect them to win exactly half the time, and for the vote margin to be close to each other. I don’t think this is actually true, though. There is no reason to expect the efficient market hypothesis to apply.

The efficient market hypothesis, or EMH, in its simplest statement is the idea that the future path of a security’s price cannot be predicted from its past behavior. It is a martingale, in other words. If it could be predicted, then profit driven traders would find it and move the price to where it will be immediately. The price of a security reflects all known information about the world. You cannot, then, expect to consistently beat the market. The assumptions needed for it to perfectly reflected are no transaction costs, costless information, homogeneous traders, and rational investors (with the last being that investors won’t enter into something they expect to lose money in). As you break these assumptions, EMH becomes less strong, but still directionally true. Acquiring information being costly, a la Grossman Stiglitz, simply gives a bound on how efficient markets can be — the last bits of information won’t be found, but this is itself efficient. Heterogenous traders, some of whom are irrational, is necessary to avoid the Milgrom-Stokey theorem, where no transactions ever occur, and so on. 

But here’s the thing — there is no reason to think that political parties need to converge to being perfectly balances against each other. Parties aren’t individuals. No one owns them. People can vote for whoever they want, and they face no cost whatsoever for doing so. When you don’t face the whole costs and benefits of your decision, and making a good decision is costly, you have no incentive to do it. For precisely the same reasons that we would not expect fishermen to catch the socially optimal level of fish, or for oilmen to extract the right amount of oil if no one could own the land, neither should we expect voting to lead to optimal decisions. 

The prediction of convergence doesn’t hold up when we look at things other than Presidential elections. Has there been any great convergence in state level races? Has there been any great convergence in international races? Just in the past year, the Conservative party was annihilated by the Labor Party, and incumbents everywhere have been in trouble. The United States is an aberration — an increasingly foolish Republican primary electorate has been throwing away their structural advantage on one particular candidate.

I think the fundamental reason for the anti-incumbent surge is that our brains aren’t ready for social media. Our sense of whether things are good or bad is to see if I’m hearing about good things or bad things. We can now hear about more bad stuff, and so we naturally think things are going badly. It’s no surprise that people, for example, think New York City is the most violent city, because one can hear about some bizarre and aberrant crime every day from there. I fear that high-openness policies are in danger, and that the base reflexes of cretins are to blame. 

But what can we do? We can only hope that we pass through these dark times into the coming utopia.