Can Democracy Always Lead to Efficient Economic Transitions?∗

I examine the role of political institutions in facilitating the adoption of a long-term surplus-maximizing policy when the economy is in transition. In the model I consider, a transition process gradually restructures economic institutions so that the population’s long-term preference may differ from its short-term preference. A democracy may fail to implement the optimal policy if the electorate does not take into account the increased benefit from transition in later periods. A dictatorship will implement the optimal policy if the dictator has complete information about the population’s preference and if the increase in surplus due to transition is high. If there is incomplete information about the population’s preference, a democratic system’s ability to aggregate private information increases when the economy is in transition. A dictatorship is constrained by its ineffectiveness in aggregating private information. Under incomplete information, the effectiveness of a political institution critically depends on the level of uncertainty about the population’s preference and the population’s ability to adapt to economic policies.