Primary and secondary reform.

Conlon, John R. ; Pecorino, Paul

I. INTRODUCTION

The export-led growth performance of the East Asian newly industrialized countries has increased interest in liberalization among developing countries in general. Such reforms are felt to benefit the economy, not only because they reduce the usual economic distortions, but also because they tend to drive agents out of rent seeking and into productive activities. However, the presence of lobbyists working for vested interests, such as import competing industries, makes these distortions difficult to remove.(1) Developed countries, of course, face similar problems. In analyzing the political and economic consequences of a reform, it is essential to consider the full range of rent-related activities in which individuals may engage. Our model focuses on two activities, rent seeking and lobbying, and examines the feedback effects resulting from reforms which target one or the other of these activities.(2) In particular, when people are driven out of rent seeking by a reform, their most natural alternative may be some other rent-related activity such as lobbying.

We refer to reforms which target lobbying as primary reforms, while reforms which target rent-seeking activities are called secondary reforms. Primary reforms target the decision making process. An example is an institutional reform which lowers (all else equal), the marginal product of lobbying. Secondary reform focuses on the side effects resulting from the policy which has been put in place by lobbying. An example is the replacement of quotas by their tariff equivalent (tariffication) in an attempt to reduce rent seeking associated with the trade regime.

In our model, import competing firms may lobby for protection which takes the form of a combination of tariffs and quotas. Raising the domestic price of the imported good increases the returns to sector specific capital located in the protected industry. To the extent that binding quotas are utilized, rents will accrue to those who acquire the import licenses. Rent seeking consists of resources (time) spent attempting to acquire the import licenses.(3)

An important feature of the model is that, for the individuals involved, rent seeking and lobbying are highly substitutable activities. The presumption is that the skills required for these activities are more closely related to one another than they are to productive activities. This type of substitution between rent related activities is suggested by Rodrik [1994, p. 86, footnote 6]: "To the extent that rent-seeking behavior dissipates some of the rents of trade protection, the efficiency gains of reform may be larger than those measured here. However, the rent-seeking literature generally exaggerates these gains. If individuals can waste resources competing for the rents generated by, say, quotas, they can also waste resources lobbying the government for the reimposition of quotas that have been taken away."(4)

Our assumption about the nature of rent seeking and lobbying activities has important implications for understanding the response to reform. In particular, this response depends on the extent to which reform is directed at rent seeking (secondary reform) or lobbying (primary reform). Feedback effects arise both because of labor market linkages, and because rents are created as a side effect of lobbying for trade protection. As we show below, the feedback effects from primary reforms often tend to reinforce the original reform, while the feedback effects associated with secondary reforms tend to retard the reform process. Near autarky, however, a primary reform can actually raise rents by increasing the volume of trade. Thus, in this situation, any primary reform should presumably be accompanied by secondary reform.

Though the model presented here is extremely simple, and is a rather specific example of reform of the trade regime, the insights gained may apply to rent seeking and lobbying more generally. Our model is relevant whenever a related set of rent seeking and lobbying activities involve similar skills. For example, Anne Krueger's [1990] discussion of the U.S. Sugar Program emphasizes the role of sector specific human capital in the perpetuation of that program in the face of exogenous "shocks" to policy. Her focus on the role of specific human capital supports the basic story of our model. This example is discussed in the conclusion.

II. THE MODEL

We wish to consider a well developed market for lobbying services, and a competitive rent-seeking activity. There are many identical import competing industries demanding lobbying services, so that each individual industry takes the wage of lobbyists as given.(5) The labor market for lobbyists/rent seekers is segmented in the short run from the market for productive labor services. We will focus on lobbying and rent seeking in one representative import competing industry. We do not explain within our model the reasons why political economic equilibrium results in import protection bias, but as in most of the literature we take this as given.(6)

Firms are defined by ownership of sector specific capital, and all firms have access to an identical constant returns to scale production technology. Labor in the productive sector is perfectly mobile among firms, and is hired at a market determined wage. As in Grossman and Helpman [1994; 1995a,b] we assume that wages of productive labor are set in a Ricardian sector in which a numeraire good is produced, and freely traded at world prices. As long as there is sufficient labor in the economy to ensure positive production in this sector, it will serve to fixed wages of productive workers in the rest of the economy. This assumption allows us to put aside general equilibrium considerations to focus on the lobbying/rent seeking sector of the economy.(7)

Lobbying

We assume that each industry is able to overcome the free-rider problem and lobbies cooperatively for the tariff which is optimal from the perspective of sector specific capital located in the industry.(8) As in Lovely and Nelson [1994], lobbying is conducted through a Political Action Committee (PAC) run by political entrepreneurs earning zero economic profit. The PAC lobbies to maximize the return to sector specific capital net of lobbying costs.(9) Firms are perfectly competitive in the output market. This set of assumptions may reflect a situation where firms are allowed to form industry associations for lobbying, but are prohibited from colluding in the output market by antitrust law. In addition, once the domestic price is determined by the lobbying process, competition from the rest of the world will force the industry to act as a price taker, even if it were otherwise able to collude in the output market.(10)

The industry has a variable cost function c(Q), where C[prime](Q) [greater than] 0 and C[double prime](Q) [greater than] 0.(11) Under constant returns to scale, the fixed supply of the sector-specific factor implies increasing marginal costs (C[double prime](Q) [greater than] 0). Domestic demand for the import good is D(P) where D[prime](P) [less than] 0. The domestic price of the import good P exceeds the world price by an amount T which is determined in the lobbying process:(12)

(1) P = [P.sup.w] + T.

The domestic price which emerges from the lobbying process should be thought of as a target price which is obtained by a combination of tariffs and quotas. The price wedge T is given by

(2) T = At([L.sub.t]),

where A is a shift parameter which will be used to analyze the effects of primary reform, [L.sub.t] is labor hired for lobbying, t[prime]([L.sub.t]) [greater than] 0, and t[double prime]([L.sub.t]) [less than] 0.(13) Given the domestic price P determined through the lobbying process, industry output is determined by

(3) C[prime](Q) = P,

which reflects the setting of marginal cost equal to price. Lobbyists may be hired by the industry PAC at the competitive wage [w.sub.L]. The total return to sector specific capital [Pi] is revenue net of variable production costs C(Q) and lobbying costs [w.sub.L][L.sub.t].(14) The PAC's problem is to

[Mathematical Expression Omitted],

where equations (1), (2) and (3) imply the following functional dependencies: P = P([L.sub.t]) and Q = Q([L.sub.t]). The first order condition is

d[Pi]/d[L.sub.t] = dP/d[L.sub.t] Q - [w.sub.L]

+ (P - C[prime](Q)) dQ/d[L.sub.t] = 0.

From equations (1) and (2), dP/d[L.sub.t] = At[prime]([L.sub.t]). Use this plus equation (3) to rewrite the first order condition as

(4) d[Pi]/d[L.sub.t] = At[prime]([L.sub.t])Q - [w.sub.L] = 0.

We can solve equation (3) to obtain Q = S(P), and since C[double prime](Q) [greater than] 0, we know that S[prime](P) [greater than] 0. Substitute Q = S(P) into equation (4) and rearrange to get

(4a) At[prime]([L.sub.t])S(P) = [w.sub.L].

Note from equation (4a) that the marginal product of lobbying depends in part on the level of output s(P) produced by the industry.

In discussing the comparative statics of the model in section III, we will refer to the following claim:

Claim 1:

The marginal product of lobbying, At[prime]([L.sub.t])S(P) increases more than proportionally with A, when [L.sub.t] is held constant.

If A rises, P = [P.sup.w] + At([L.sub.t]) rises, so S(P) rises (since S[prime](P) [greater than] 0). Thus, At[prime]([L.sub.t])S(P) rises more than proportionally with A when [L.sub.t] is held constant.

For a firm taking [w.sub.L] as given, the second order conditions for an interior maximum require that the marginal product of lobbying, At[prime]([L.sub.t])S(P), be decreasing in [L.sub.t]. In general, there is no guarantee that this will be so. The condition that t[double prime]([L.sub.t] [less than] 0 suggests decreasing returns to lobbying. However, greater lobbying raises P and leads to higher output S(P). From the left-hand side of equation (4a), higher output raises the return to lobbying. Thus, unless t[prime]([L.sub.t]) falls sufficiently quickly, it is possible for the marginal product of lobbying to increase in [L.sub.t].

With increasing returns, the amount of lobbying will increase until either an area of decreasing returns is reached, or a corner solution is reached in which T becomes prohibitive and all imports cease (a corner solution with zero lobbying is also possible). Given our concerns, the corner solutions are uninteresting, and we will not consider them further. Thus, in all our diagrams it is assumed that the marginal product of lobbying (shown as the [w.sub.L] curve) is decreasing in [L.sub.t]. This would follow from some combination of fixed factors in production with the associated decreasing returns in mobile factors, and decreasing returns to the tariff lobbying function t([L.sub.t]).

Rent Seeking

In the process of lobbying to increase the return to sector specific capital, the industry creates rents which it does not capture. These rents accrue to those who obtain import licenses. As an alternative to the lobbying activity, individuals may expend time in an effort to obtain valuable import licenses. The total amount of rents R available to rent seekers is

(5) R = [Theta][R.sub.E](A, [L.sub.t]),

where [Theta] is a shift parameter used to analyze secondary reform and

(5a) [R.sub.E](A, [L.sub.t]) = At([L.sub.t])[D([P.sup.w] + At([L.sub.t])) - S([P.sup.w] + At([L.sub.t]))].

That is, total rents R are proportional to the price wedge T = At([L.sub.t]) times imports (D(P) - S(P)). Note that this is the tariff revenue equivalent, and is denoted [R.sub.E](A, [L.sub.t]). The parameter [Theta] reflects the extent to which quota rents are absorbed by the tariff. When [Theta] = 1, tariffs are zero, and when [Theta] = 0, all quota rents are absorbed by the tariff (i.e., the tariff is set so that the quota just binds). For the purpose of the comparative static exercises in section III, we would like to make two claims about the expression in equation (5a).

Claim 2:

If [R.sub.E](A, [L.sub.t]) is increasing (decreasing) in [L.sub.t] with A held constant, then it is increasing (decreasing) in A with [L.sub.t] held constant.

This follows because A and t([L.sub.t]) enter symmetrically in equation (5a), and t[prime]([L.sub.t]) [greater than] 0.

Claim 3:

When A increases ([L.sub.t] held constant), [R.sub.E](A, [L.sub.t]) either increases less than proportionally with A, or it decreases.

When A rises with [L.sub.t] held constant, P = [P.sup.w] + At([L.sub.t]) rises, so the volume of imports, D(P) - S(P), falls. Thus, when A rises, [R.sub.E] rises less than proportionally, or else it falls.

We next assume that all rents are dissipated, and individuals earn rents based on their time spent rent-seeking relative to the total time expenditure of all rent seekers. Thus, the wage in rent seeking [w.sub.R] is

(6) [w.sub.R] = R/[L.sub.r] = [Theta][R.sub.E](A, [L.sub.t])/[L.sub.r],

where R is total rents, and [L.sub.r] is the number of rent seekers.

Equilibrium

There is perfect substitutability of labor between rent seeking and lobbying so there are essentially no distinctions between individuals engaged in either of these two activities. What is crucial for the following is that skills be more highly substitutable between rent seeking and lobbying than they are between either of these two activities and production. With perfect mobility between rent seeking and lobbying, we have

(7) [w.sub.R] = [w.sub.L] = [w.sup.8],

where [w.sup.*] denotes the equilibrium wage.

Lobbyists' skills are acquired and this creates a wedge between their marginal product in rent seeking/lobbying and their marginal product in productive activities. These skills may reflect the establishment of contacts, and the costs of learning the rules of the game. In the short run, the number of lobbyists/rent seekers is fixed at L reflecting the existence of sector specific human capital and the resulting labor market segmentation. Labor market clearing implies

(8) [Mathematical Expression Omitted].

Over time, there is turnover in the labor market, and L is free to adjust. In the long run there is an infinitely elastic supply of labor to the rent-seeking/lobbying sector at the wage [Mathematical Expression Omitted], which reflects both the competitive wage determined in the Ricardian sector and the wage premium necessary to compensate individuals for the accumulation of sector specific skills. We do not explicitly analyze the transition to the long run, but it is reasonable to assume that the speed of the movement into and out of the rent seeking/lobbying sector will depend positively on the gap between the current wage [w.sup.*], and the long-run equilibrium wage [Mathematical Expression Omitted] as reflected by

(9) [Mathematical Expression Omitted],

where g(0) = 0 and g[prime] [greater than] 0.(15) Reforms which cause a large fall in [w.sup.*] will lead to a sharp outflow of labor from the rent seeking/lobbying sector via equation (9). One setting in which an equation such as (9) could apply would be an overlapping generations model, though other specifications are possible. The particular choice of microfoundations for equation (9) will not have a major effect on the conclusions of our model.

Since [w.sub.L] = [w.sub.R], equilibrium in the short run requires that

(10) [Mathematical Expression Omitted].

This follows from equations (4a), (6) and (7), and assumes that some labor is allocated to both lobbying and rent seeking.

To understand how [L.sub.t] is determined in the short run, consider Figures 1a-b. In both diagrams, the marginal product of lobbying, [w.sub.L], is decreasing in [L.sub.t] (as discussed earlier). However, the wage in rent seeking, [w.sub.R] (given by the left-hand side of equation (10)), may be either increasing or decreasing in [L.sub.t]. This is due in part to the relationship between rents R = [Theta][R.sub.E] and the price wedge T. Total rents available are proportional to the price wedge times imports. Lobbying increases the price wedge, but it reduces imports, so this product may either rise or fall. Thus, the tariff revenue equivalent curve, [R.sub.E](A, [L.sub.t]), generally has both upward and downward sloping portions in [L.sub.t].

If there is a positive relationship between T and R, the wage in rent seeking will be increasing in [L.sub.t] for two reasons. As [L.sub.t] rises, there are more rents, but there are also fewer rent seekers (recall, [L.sub.r] = L - [L.sub.t]). This case is described by Figure 1a, where [w.sub.R] is upward sloping in [L.sub.t]. If rents are decreasing in T, wages in rent seeking may either increase or decrease in [L.sub.t]. As [L.sub.t] increases, there are fewer rents to be sought, but also fewer rent seekers. Thus, either Figure 1a or 1b may apply. In Figure 1b, rents are falling sufficiently fast with an increase in [L.sub.t] (and therefore T) to ensure a fall in the wage to rent seekers even though the number of rent seekers is also declining in [L.sub.t]. Figure 1b is likely to apply near autarky, where the rents would tend to decline sharply with T.

If wages in rent seeking are falling more quickly than the marginal product of lobbying where the curves intersect, there will be an unstable equilibrium. While this type of instability constitutes one of the logically possible cases of the model, given our concerns this case is uninteresting, and we will not discuss it further. To avoid an unstable equilibrium, the slope of the [w.sub.R] curve must be greater than the slope of the [w.sub.L] curve where they intersect (so that if, e.g., [L.sub.t] [greater than] [L.sup.*], then [w.sub.R] [greater than] [w.sub.L], and [L.sub.t] falls).

III. PRIMARY AND SECONDARY REFORM

We model a primary reform as a reduction in the parameter A. This reform reduces both the marginal product of lobbying and the level of the price wedge T, all else held constant. A secondary reform consists of a reduction in the parameter [Theta] (partial tariffication of the quotas) which, all else constant, reduces available rents in the economy.(16) We consider each reform in turn, and each is considered to affect lobbying or rent seeking uniformly across our industries (in accordance with our representative industry analysis). We do not consider broad based reforms under which A and 0 are reduced simultaneously. Clearly such reforms would obviate some of the negative feedback effects discussed below.

Welfare Effects of Reform

There are two distortions present in the model, the price wedge T which leads to inefficient production in the import competing sector, and the existence of the rent seeking/lobbying activity. The short-run and long-run success of a reform depends on its ability to reduce these two distortions. When the price wedge is reduced, mobile productive labor will flow out of the protected sector, and into the Ricardian sector where world prices prevail. As a result, the value of output measured at world prices will rise. A reform which reduces the wage in the rent seeking/lobbying sector will be successful, over time, in moving individuals into the productive sector of the economy.(17) All labor freed from the rent-seeking/lobbying sector is absorbed by the Ricardian sector, and each unit of labor reallocated in this fashion raises the value of output measured at world prices by an amount equal to the wage in the productive sector. In a model with general equilibrium wage effects, the welfare analysis might be complicated by second best considerations. In particular, a reduction of one distortion can be welfare reducing if it worsens a second distortion as in Bhagwati [1971; 1980].

In addition to the welfare effects discussed above, to the extent that a reform quickly moves individuals out of rent seeking/lobbying and into the productive sector, the constituency for maintaining reform will grow, and the constituency which seeks to overturn reform will shrink. Such movements are crucial to the continued survival of a reform.

Secondary Reform

Consider first a reform targeting the rent-seeking activity as reflected by a reduction in [Theta]. This reform represents a partial conversion of quotas to their tariff equivalent.(18) As seen in Figures 2a-b, the [w.sub.R] curve shifts down, [w.sub.*] falls and [L.sub.t] rises regardless of whether [w.sub.R] is upward or downward sloping. Since [L.sub.t] rises, a negative side effect of tariffication is movement into lobbying so that the price wedge T grows. The reform will result in an eventual exit from the rent-seeking/lobbying sector, but in the short run the reform will worsen the existing production distortion.

The fall in [w.sub.*] and the rise in [L.sub.t] are most dramatic when, as may be the case near autarky, [w.sub.R] is downward sloping (implying that the revenue equivalent of the tariff falls when T rises). Wages to rent seekers fall as [Theta] falls, and this is reinforced when [L.sub.t] rises and the economy moves further down the tariff revenue equivalent curve. Thus, large decreases in [w.sub.*] are achieved at the cost of moving the economy close to autarky.

When [w.sub.R] is upward sloping, the feedback effect tends to increase total rents, and so dampen the effect on [w.sub.*] (though it also results in a correspondingly smaller increase in [L.sub.t] and therefore in the price wedge T). The movement out of rent seeking into lobbying increases the revenue equivalent of the tariff, and so partially offsets the reform's initial reduction in rents. The rents created by this feedback effect then tend to result in a sluggish exit from the rent-seeking/lobbying sector. In the long run, however, T will fall to its initial level as [w.sub.*] returns to its long-run equilibrium value w, and rents will be reduced in proportion to the reduction in [Theta].

The difficulty with tariffication is that, in the short run, while rent seeking is reduced, pressures appear elsewhere in the system in the form of increased lobbying. The production distortion will be worsened, and if rents are increasing in the amount of lobbying, exit from the rent seeking/lobbying sector may be quite sluggish. As discussed below, there are some cases in which negative feedback effects are associated with reductions in A (the shift parameter from the lobbying function), but negative feedback from the reduction of [Theta] is guaranteed.

Primary Reform

Consider next a reform which targets the lobbying activity as reflected by a reduction of the parameter A. The responses to such a reform are summarized in Figures 3a-c. In each case, the [w.sub.L] curve shifts down as the marginal product of lobbying is lower for all values of [L.sub.t]. If rents are increasing in T, then the reduction in A will also cause the [w.sub.R] curve to shift down as in Figure 3a. This is because, as A falls, T falls, so total rents fall, and the wage in rent seeking is lower at the initial value of [L.sub.t]. This seems to give an ambiguous effect of a reduction in A on [L.sub.t]. However, by Claim 1, the [w.sub.L] curve shifts down more than proportionally with the reduction in A, while by Claim 3, the [w.sub.R] curve shifts down less than proportionally with the reduction in A. Thus, the [w.sub.L] curve shifts down more than the [w.sub.R] curve, so [L.sub.t] must fall, as shown in the figure.

The reduction in rent availability is a positive side effect of primary reform in this case. The reduction in rents puts strong downward pressure on [w.sub.*], which will promote exit from the rent-seeking/lobbying sector. In the long run, [w.sub.*] will rise back up to [Mathematical Expression Omitted], resulting in a further decrease in lobbying (and so, distortions and rents) relative to the short run. The long-run decrease in lobbying is determined by the horizontal shift in the [w.sub.L] curve.

Next, consider when the tariff revenue equivalent curve is decreasing in [L.sub.t], and so, by Claim 2, decreasing in A as well ([L.sub.t] held constant). Since the tariff revenue equivalent is decreasing in A, a reduction in A shifts the [w.sub.R] curve up. The [w.sub.R] curve may now be either upward or downward sloping. If the [w.sub.R] curve is upward sloping, the effect of a decrease in A is reflected by Figure 3b. Since the [w.sub.L] curve shifts down and the [w.sub.R] curve shifts up, the effect on [w.sub.*] is ambiguous, but there is a sharper drop in [L.sub.t] than in Figure 3a (and therefore a greater reduction in the distortion represented by T). The rent expansion effect due to increased trade prevents a sharp drop in the wage, and results, at best, in a sluggish exit from the rent-seeking/lobbying sector.

If we are very near autarky, so that [w.sub.R] slopes downward, then a decrease in A necessarily increases rents ([L.sub.t] held constant). Thus, the [w.sub.R] curve will shift up as in Figure 3c. There is an increase in [w.sup.*] and a correspondingly sharp decrease in lobbying effort. The rise in [w.sup.*] implies long run entry into the rent seeking/lobbying sector. In a highly distorted economy, a move toward free trade can result in an increase in lobbyist's wages in the short run, and in rent-seeking activity in the long run, due to the rent expansion effect. As a result, the welfare benefits of freer trade are traded off against the costs of greater rent seeking.(19) Note in Figure 3c, that the long-run decrease in the tariff is smaller than the short-run decrease; the equilibrium wage will fall in the long run as additional lobbyists/rent seekers are attracted to the sector. To counteract the rent expansion effect near autarky, primary reform should probably be accompanied by secondary reform.

Two goals of trade reform are the reduction of the production distortion resulting from protection and the movement of individuals over time out of the rent-seeking/lobbying sector into the productive sector of the economy. Primary reform will reduce the production distortion and may exhibit either a positive or negative feedback through its effects on rent availability. However, secondary reform is guaranteed to produce a negative feedback effect in the short run as it pushes agents out of rent seeking into the lobbying activity. This will increase the production distortion and may lead to an increase in rents which can partially offset the initial reduction due to the reform.

IV. CONCLUSION

The model presented here is clearly incomplete in some important ways. For example, we do not specify the forces which initially drive reform and therefore cannot within the model derive the responses which might cause a reform to collapse.(20) Still, it seems reasonable to assume that the success of a reform depends critically on its effectiveness in moving individuals out of unproductive activities and into productive ones, and possible gains from more efficient patterns of production. Thus, the success or failure of a reform may depend critically on the feedback effects analyzed in this paper.

Changes in the lobbying parameter A may reflect either changes in the party in power, changes in the receptivity to calls for protection within a given ruling party, or institutional changes affecting the lobbying process. For example, reductions in A might reflect tighter ethics rules (or improved ethics) as well as stricter disclosure requirements for lobbyists. In the case of trade policy in the United States, parameter A would (among other things) reflect the administrative protection apparatus related to antidumping actions and countervailing duties.

Our analysis has nothing to say about how to bring about fundamental changes in receptivity to lobbying. However, it does suggest that a focus on institutions may be as important as a focus on the policies themselves. The analysis is also consistent with a high failure rate for reforms imposed on governments by external forces (e.g. the IMF) when the underlying attitudes of the government are unchanged. This type of policy cycle (reform followed by relapse) is noted by Krueger [1978] and Bhagwati [1978] in their studies of trade policy in developing countries.

Though our analysis is conducted within the context of trade policy, the insights gained from the model generalize. The analysis should apply to any situation where one can separate out rent seeking from lobbying with respect to a specific set of policies. Also, "rent seeking" should be interpreted broadly to include, among other things, positions in the bureaucracy. Just as quota rents may arise as a side effect of trade restrictions, positions in the bureaucracy may arise as side effects of programs created to benefit other groups. As we discuss below, bureaucrats may also acquire human capital specific to certain programs and form part of the labor pool available for the bureaucratic, lobbying and rent seeking activities related to a particular set of programs.

The history of the U.S. sugar program is very complex, but important elements of the story do seem to correspond with our model. The program has, at various times, set a domestic target price for sugar, and also determined domestic production quotas and foreign import quotas. The complexity of the program led lobbyists and bureaucrats to acquire a good deal of specific human capital. Writing about sugar and other agricultural programs, Krueger [1990, 213] notes, "Those with understanding of the U.S. Sugar Program could seek employment as lobbyists for foreign governments, or as representatives of domestic groups, as Congressional staff assistants, or with the Department of Agriculture. For any non-specialist to enter the policy dialogue in a meaningful way would require a considerable investment."

This had important consequences when exogenous factors affected the program. Country-specific quotas were initially designed to benefit Cuba, but in 1960, Cuba's quota was cut to zero. Rather than leading to the end of country specific import quotas, this led to a political fight which resulted in a division of the Cuban quota among foreign and domestic producers. According to Krueger [1990, 210], "had there been no sugar program in 1960, the most likely outcome is that the United States would have continued buying sugar on world markets. It is difficult to imagine a sequence of events under which a changed Cuban Government could have been seized upon as a rationale for the inauguration of a Sugar Program."

Though the program was not renewed in 1974 during a period of high sugar prices, it was revived in 1981 and country specific import quotas were reimposed shortly thereafter. The program has proved very difficult to kill, though it has mutated over time in response to various shocks. This is likely due in part to the acquired human capital which was specific to the sugar program. As Krueger [1990, 212-3] puts it, "... the specialists in a given policy instrument become a vested interest in the maintenance of SOME policy." (emphasis in the original)

In understanding the response to a reform, it is necessary to understand the range of activities to which rent seekers/lobbyists can apply their skills given a change in the policy climate. To the extent that their skills may be easily applied to other unproductive activities, pressures may reappear elsewhere in the system that will tend to frustrate reform. Whether this happens will, in turn, depend critically on the nature of the original reform.

ABBREVIATION

PAC: Political Action Committee

1. For an account of the policies followed in developing countries and attempts to reform those policies, see Krueger [1978] and Bhagwati and Srinivasan [1975] as well as the other country studies in this NBER project. Also, see Krueger [1993], Bhagwati [1993] and Rodrik [1996] among others.

2. These are dubbed directly-unproductive profit-seeking activities by Bhagwati [1982].

3. As modeled, rent seekers take the amount of rents as given. That is, they do not lobby in an attempt to directly affect the amount of rents available. The model could be extended to allow them to lobby, but to the extent they behave atomistically, there is no incentive for them to do so.

4. The model implicit in Rodrik's quote differs from ours in that rent creation is considered an end achieved through lobbying (people lobby to create rents they later seek), while in our model, rent creation is a by-product of tariff lobbying. The quote is consistent with our main assumption that DUP activities may be close substitutes for one another.

5. That the market for lobbying services is competitive is clearly only an approximation. In some cases (see the discussion in the conclusion), it may be the case that human capital is specific to lobbying and rent seeking activities associated with a single industry. As a result, the labor market may be "thin." We have chosen the assumption which makes for a simpler labor market interaction, but the basic flavor of the results should hold in a more complex labor market setting as well.

6. See the discussion of this issue in Rodrik [1995].

7. Alternatively, one can think of our model as lobbying and rent seeking within a related set of industries (say in agriculture) which is small compared to the economy as a whole.

8. In a related setting, Conlon and Pecorino [1998] analyze feedback effects from reform in a model where the free-rider problem is specifically taken into account. As with this paper, they identify negative feedback effects from secondary reforms, but in the presence of a free-rider problem, these effects may be greatly multiplied.

9. For more on the specific factors model, see Jones [1971].

10. For a homogeneous good under a nonprohibitive tariff, foreign competition will force a monopolist to behave as a price taker. See Helpman and Krugman [1989, 29-30]. Though it is supported by both a quota and a tariff, from the perspective of firms in the protected industry, the target price in equation (1) is equivalent to a tariff.

11. Since wages of productive labor are determined in the Ricardian sector, we suppress the dependence of the cost function on wages.

12. Alternatively, the industry could lobby over the size of the quota. This assumption would have no effect on our results.

13. Our model of lobbying is in the line of Findlay and Wellisz [1982]. Also see Mayer's [1984] model of tariff determination via direct voting, and Magee, Brock and Young's [1989] model of probabilistic elections with campaign contributions. Grossman and Helpman [1994; 1995a,b] consider models where campaign contributions purchase influence directly, rather than influencing election outcomes as in Magee, Brock and Young.

14. In Findlay and Wellisz [1982] and Grossman and Helpman [1994; 1995a,b] political activity (either lobbying or campaign contributions) is also directed at raising the return to sector specific capital.

15. Of course equation (9) would not be adequate for a full analysis of exit and entry. A more complete analysis would involve, for example, expected future wages as well as current wages.

16. We do not consider parallel shifts in the lobbying function. With a function of the form T = [Gamma] + At([L.sub.t]) a reduction in [Gamma] would reduce the level of the price wedge and affect available rents, but (other things constant) leave the marginal effect of lobbying on the price wedge unaffected. Such reforms are considered in a somewhat different context by Pecorino [1997].

17. We are ignoring an important larger issue which is the proper role of lobbying in a democracy. Taking the legitimate role of lobbying into account, our presumption here is that the economy in question initially has more than the "socially optimal" level of lobbying.

18. If it is believed that revenue seeking, as in Bhagwati and Srinivasan [1980], will draw in the same level of resources as distribution of quota licenses, this reform can be considered some change in the distribution of quota licenses which makes a smaller percentage of the total subject to rent seeking. Alternatively, it could be considered as an earmarking of a certain percentage of revenues for specific purposes such that they were less subject to revenue seeking. Dinopoulos [1984] considers the possibility that only some fraction of revenues are subject to revenue seeking.

19. Krueger [1974, 301] points out that with rent seeking, an import prohibition may be preferable to a positive quota.

20. See Krueger [1993] for a discussion of both of these issues.

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