Incentives matter, so a good institution aligns self-interest with the social interest. Does democracy align self-interest with the social interest? Sometimes. On the negative side, voters in a democracy have too little incentive to be informed about political matters. Voters are rationally ignorant because the benefits of being informed are small—if you are informed, you are more likely to choose wisely at the polls, but your vote doesn’t appreciably increase the probability that society will choose wisely, so why bother to be informed? Being informed creates an external benefit because your informed vote benefits everyone, but we know that goods with external benefits are underprovided.

Rational ignorance means that special interests can dominate parts of the political process. By concentrating benefits and diffusing costs, politicians can often build political support for themselves even when their policies generate more costs than benefits.

Incumbent politicians can use their control of the government to increase the probability that they will be reelected. Politicians typically increase spending before an election and increase taxes only after the election. Voters pay attention to current economic conditions even when the prosperity is temporarily and artificially enhanced at the expense of future economic conditions.

Our study of political economy can usefully be considered a study of government failure that complements the theory of market failure due to externalities and monopoly. When markets fail to align self-interest with the social interest, we get market failure. When the institutions of government fail to align self-interest with the social interest, we get government failure. No institutions are perfect and tradeoffs are everywhere—this is a key lesson when thinking about markets and government.

A close look at democracy can be disillusioning, but the record of democracies on some of the big issues is quite good. It’s hard for politicians in a democracy to ignore the major interests of voters. And if things do go wrong, voters in a democracy can always “throw the bums out” and start again with new ideas. Partially as a result, democracies have a good record on averting mass famines, maintaining civil liberties like free speech, and supporting economic growth. Most of all, democracies tend not to kill their own citizens, who after all are potential voters.