Reelection and Renegotiation negotiations with EU member states.which nearly led for them given the agreement that was initially nego- Greece to exit the European Monetary Union. tiated.Following elections,domestic agents receive a In the context of a renegotiation,the effective bar- stochastic and publicly observed shock to their prefer- gaining power of a government typically derives from ences over the project.For example.civil unrest may its relative willingness to walk away from an existing raise the domestic political cost of the project regard- agreement,either in accordance with an exit process less of which political party holds power. stipulated in the agreement itself,or by simply abrogat- At date two,the transfer negotiated before the elec- ing the terms.2 This was manifest in the unilateral deci- tion serves as the transfer that would be made if sion by the Bush Administration to withdraw from the the new domestic government again implements the Kyoto Protocol in 2001,and in 2017 when the Trump project.However,either the foreign or domestic gov- Administration threatened to"terminate"NAFTA ab- ernment may renegotiate the existing terms by propos- sent a renegotiation that would deliver a"fair deal"for ing a new transfer.If accepted by the other govern- the United States.Indeed,when Margaret Thatcher ment,the proposed transfer replaces the standing offer: renegotiated a two-thirds rebate of Britain's contribu- but if rejected,the initial transfer remains in place.The tion to the budget of the EECin 1984,she is reported to foreign government then makes the prevailing transfer have succeeded only by threatening to withhold all of if and only if the date-two domestic government imple- Britain's contribution unless her demands were met.4 ments the project. The revised British contribution remained in place un- We explore how the prospect for initial agreements til2005.5 and the division of the surplus varies with(a)the pref- Our paper asks:How do pending national elections erences of the date-one domestic government,(b)un- determine (a)the prospects for initial cooperation be- certainty about the preferences of a future domestic tween states and (b)the division of the surplus from an government,(c)uncertainty about the preferences of vc士 agreement?And how do the terms of an initial agree- the domestic electorate,and(d)how agents discount ment affect the prospect of electoral replacement,the future outcomes. 4号元 bargaining attitude of a potential successor,or the risk Obviously,if agents care only for the short term,the that a successor will walk away from the agreement? foreign government wants to make the smallest date- Our Approach.At each of two dates,a domestic gov- one transfer that induces the domestic government to ernment negotiates an agreement with a foreign gov- pursue the project.But,suppose that agents care about ernment.The agreement specifies whether a binary the future consequences of an initial agreement.When policy project is undertaken and the extent of trans- a future domestic government takes power,it may want to negotiate a larger transfer than what it inherited. fers to be made between governments in return for implementing the project.The transfers could include But whether the foreign government would agree to a larger transfer depends on the credibility of the domes- budget contributions,rebates,or regulatory carve-outs. tic government's threat to abandon the project based Agents hold commonly known initial project valua- tions.The domestic incumbent is either intrinsically rel- on the existing terms-the more primitively hostile atively friendly or hostile to the project,but we assume is the date-two domestic government to the project, that neither domestic party initially wants to imple- (a)the smaller is date-two surplus,but (b)the greater ment the project without some concessions from the is the set of circumstances in which it would be willing to walk away from the existing agreement absent rene- foreign government. After the initial negotiations conclude,a national gotiation.This fundamental tension bears on all of our results. election determines whether the incumbent is retained or replaced by the other party.We first assume that When the election outcome is unaffected by ini- the uncertainty over who will hold power at date two tial negotiations,we prove that the two governments is unaffected by date-one outcomes.We then assume reach an agreement if and only if the immediate(date- that voters cast their ballots for whichever party is best one)total surplus from the project is positive.That is, static and dynamic conditions for an agreement coin- cide.Moreover,agreements always feature the small- est transfer that induces the date-one domestic govern- 2 The Treaty of Lisbon introduced an explicit procedure for a mem- ment to implement the project.Thus,beliefs about who ber country of the EU to exit 3 see https://goo.gl/UlBqBM will hold power in the future are irrelevant for whether 4 See Future Financing of the European Union.(6th Report session an initial deal is signed and for how the surplus from 2004-05,HL Paper62,page21,Q68). agreement is divided. 5 Power-sharing arrangements between central and peripheral gov- Matters are very different when domestic voters ernments within states are also subject to the threat of renegotia- select their date-two domestic representative taking tion,influenced by the threat or realization of electoral success by nationalist and secessionist regional parties,resulting in partial devo- into account initial negotiation outcomes.More hostile lution of policymaking(e.g,Catalonia or the Basque State in Spain: domestic governments can more credibly threaten to Quebec in Canada influenced by the Parti Quebecois;Scotland in walk away from an existing agreement.This raises the Great Britain,influenced by the Scottish Nationalist Party:or the prospect of appropriating more of the surplus and the Flemish Community and Walloon Region in Belgium).The terms attractiveness of electing a government that is more in- governing the division of policymaking responsibilities weigh heavily on elections and anticipation of possible renegotiations after futur trinsically hostile to the project.But,when represen- elections weigh on the current devolution of policymaking.We thank tatives are more hostile to the project than voters,the Laurent Bouton for proposing this application of our framework. misaligned interests also raise the prospect that the 1017Reelection and Renegotiation negotiations with EU member states, which nearly led Greece to exit the European Monetary Union. In the context of a renegotiation, the effective bar￾gaining power of a government typically derives from its relative willingness to walk away from an existing agreement, either in accordance with an exit process stipulated in the agreement itself, or by simply abrogat￾ing the terms.2 This was manifest in the unilateral deci￾sion by the Bush Administration to withdraw from the Kyoto Protocol in 2001, and in 2017 when the Trump Administration threatened to “terminate” NAFTA ab￾sent a renegotiation that would deliver a “fair deal” for the United States.3 Indeed, when Margaret Thatcher renegotiated a two-thirds rebate of Britain’s contribu￾tion to the budget of the EEC in 1984, she is reported to have succeeded only by threatening to withhold all of Britain’s contribution unless her demands were met.4 The revised British contribution remained in place un￾til 2005.5 Our paper asks: How do pending national elections determine (a) the prospects for initial cooperation be￾tween states and (b) the division of the surplus from an agreement? And how do the terms of an initial agree￾ment affect the prospect of electoral replacement, the bargaining attitude of a potential successor, or the risk that a successor will walk away from the agreement? Our Approach. At each of two dates, a domestic gov￾ernment negotiates an agreement with a foreign gov￾ernment. The agreement specifies whether a binary policy project is undertaken and the extent of trans￾fers to be made between governments in return for implementing the project. The transfers could include budget contributions, rebates, or regulatory carve-outs. Agents hold commonly known initial project valua￾tions.The domestic incumbent is either intrinsically rel￾atively friendly or hostile to the project, but we assume that neither domestic party initially wants to imple￾ment the project without some concessions from the foreign government. After the initial negotiations conclude, a national election determines whether the incumbent is retained or replaced by the other party. We first assume that the uncertainty over who will hold power at date two is unaffected by date-one outcomes. We then assume that voters cast their ballots for whichever party is best 2 The Treaty of Lisbon introduced an explicit procedure for a mem￾ber country of the EU to exit. 3 see https://goo.gl/UlBqBM. 4 See Future Financing of the European Union, (6th Report session 2004-05, HL Paper 62, page 21, Q68). 5 Power-sharing arrangements between central and peripheral gov￾ernments within states are also subject to the threat of renegotia￾tion, influenced by the threat or realization of electoral success by nationalist and secessionist regional parties, resulting in partial devo￾lution of policymaking (e.g., Catalonia or the Basque State in Spain; Quebec in Canada influenced by the Parti Quebecois; Scotland in Great Britain, influenced by the Scottish Nationalist Party; or the Flemish Community and Walloon Region in Belgium). The terms governing the division of policymaking responsibilities weigh heavily on elections and anticipation of possible renegotiations after future elections weigh on the current devolution of policymaking.We thank Laurent Bouton for proposing this application of our framework. for them given the agreement that was initially nego￾tiated. Following elections, domestic agents receive a stochastic and publicly observed shock to their prefer￾ences over the project. For example, civil unrest may raise the domestic political cost of the project regard￾less of which political party holds power. At date two, the transfer negotiated before the elec￾tion serves as the transfer that would be made if the new domestic government again implements the project. However, either the foreign or domestic gov￾ernment may renegotiate the existing terms by propos￾ing a new transfer. If accepted by the other govern￾ment, the proposed transfer replaces the standing offer; but if rejected, the initial transfer remains in place. The foreign government then makes the prevailing transfer if and only if the date-two domestic government imple￾ments the project. We explore how the prospect for initial agreements and the division of the surplus varies with (a) the pref￾erences of the date-one domestic government, (b) un￾certainty about the preferences of a future domestic government, (c) uncertainty about the preferences of the domestic electorate, and (d) how agents discount future outcomes. Obviously, if agents care only for the short term, the foreign government wants to make the smallest date￾one transfer that induces the domestic government to pursue the project. But, suppose that agents care about the future consequences of an initial agreement. When a future domestic government takes power,it may want to negotiate a larger transfer than what it inherited. But whether the foreign government would agree to a larger transfer depends on the credibility of the domes￾tic government’s threat to abandon the project based on the existing terms—the more primitively hostile is the date-two domestic government to the project, (a) the smaller is date-two surplus, but (b) the greater is the set of circumstances in which it would be willing to walk away from the existing agreement absent rene￾gotiation. This fundamental tension bears on all of our results. When the election outcome is unaffected by ini￾tial negotiations, we prove that the two governments reach an agreement if and only if the immediate (date￾one) total surplus from the project is positive. That is, static and dynamic conditions for an agreement coin￾cide. Moreover, agreements always feature the small￾est transfer that induces the date-one domestic govern￾ment to implement the project. Thus, beliefs about who will hold power in the future are irrelevant for whether an initial deal is signed and for how the surplus from agreement is divided. Matters are very different when domestic voters select their date-two domestic representative taking into account initial negotiation outcomes.More hostile domestic governments can more credibly threaten to walk away from an existing agreement. This raises the prospect of appropriating more of the surplus and the attractiveness of electing a government that is more in￾trinsically hostile to the project. But, when represen￾tatives are more hostile to the project than voters, the misaligned interests also raise the prospect that the 1017 Downloaded from https://www.cambridge.org/core. Shanghai JiaoTong University, on 26 Oct 2018 at 03:53:04, subject to the Cambridge Core terms of use, available at https://www.cambridge.org/core/terms. https://doi.org/10.1017/S0003055418000400