Dynamic Coalition Formation and Equilibrium Policy Selection*

A model of policy formulation is proposed in which the government and the private sector form dynamic coalitions for the purpose of choosing policy actions. However, current players cannot commit their future selves to any particular actions. Defining an equilibrium to be an unblocked sequence of actions, we show that an equilibrium exists and is unique even though, in general, cooperative outcomes are not time-consistent. Our framework has the implication that when private agents and the government have identical preferences, there are no distortions associated with the use of non-lump-sum taxes. Some empirical implications of this result are discussed.