Political expectations, inflation, and unemployment Consider a country with two political parties, Democratsand Republicans. Democrats care more about unemployment The table presents payoffs to each party under the various out- comes. Think of a payoff as a measure of happiness for a given party under a given outcome. If Democrats vote for welfare cuts, and Republicans vote against cuts in military spend- ing, the Republicans receive a payoff of 3, and the Democrats receive a payoff of - 2.
a. If the Republicans decide to cut military spending, what is the best response of the Democrats? Given this response, what is the payoff for the Republicans?
b. If the Republicans decide not to cut military spending, what is the best response of the Democrats? Given this re- sponse, what is the payoff for the Republicans?
c. What will the Republicans do? What will the Democrats do? Will the budget deficit be reduced? Why or why not? (A game with a payoff structure like the one in this prob- lem, and that produces the outcome you have just de- scribed, is known as a prisoner's dilemma.) Is there a way to improve the outcome?