Replacement and Patronage

Abstract

In any state, substantial powers are delegated to agents who are classified into entrenched elites and transient officeholders. In this paper, we study how this classification of agents stems from the self-enforcing incentive system that the principal employs to resolve the problem of political agency. Conceptually, the principal can use two tools to create incentives: the threat of replacement and the promise of long-term rents. However, absent any third-party enforcer, the principal's commitment to either tool matters. We formalize these premises in a model of dynamic moral hazard. In each period, the principal can offer a payment at the beginning and choose whether to replace the agent at the end. Central to our modeling is the replaceability of an agent: after the principal has dismissed the current agent, a new agent arrives only with an exogenous probability. First, we unveil a trade-off between replacement and long-term rewards: the ability to credibly commit to replacement undermines the ability to credibly promise moral hazard rents in the long run. Second, we characterize how the replaceability of an agent shapes the equilibrium incentive system. In environments with high replaceability, the system only involves transient officeholders; any agent must be replaced in the long run. In contrast, in environments with low replaceability, the current agent becomes an entrenched elite and if he accumulates good performance, then the agent enjoys moral-hazard rents in the long run. Most interestingly, a hybrid system emerges when the replaceability is intermediate. An agent becomes entrenched and enjoys long-term rents after a history of good performance, whereas he is replaced after a history of bad performance. Third, an intermediate level of replaceability allows the principal to balance the commitments to both tools and thus yields the highest equilibrium payoff to the principal. Finally, we situate our theoretical analysis to various historical contexts.