The Brexit vote on June 23rd 2016 highlights the basic fact that the costs and benefits of economic and political integration are unequally distributed across different social groups within a region. Because integration has winners and losers, when decisions on sovereignty are taken through majority voting it is possible that a majority against integration emerges even if it is efficient to integrate.
To understand how the democratic process affects a region’s incentive to separate from a political jurisdiction, the starting point is the analysis of the trade-off between the benefits of large jurisdictions and the costs of heterogeneity in large populations. On one hand, in large jurisdictions there are scale gains in the provision of public goods, gains from internal trade (when international trade is not free), and reductions in the costs of localized exogenous shocks. On the other hand, the larger the population the more difficult it is for the government to satisfy their diverse demands for public goods since individuals are likely to have heterogeneous tastes and needs. If the differences between individuals are significant, they may prefer to break away from the union in order to get public goods closer to their preferences. The loss of efficiency arises because voters at the margins do not internalize the negative externalities imposed on others. This leads to an equilibrium where there are too many small regions relative to a benchmark where the optimal number of regions is determined by a social planner who maximizes average world utility.
Because income redistribution is a fundamental decision-making variable for voters, research on secession also focuses on the role of conflicts that arise from differences in preferences over fiscal policy. The logic is that poor agents favor high income tax rates and rich agents favor low rates, while the equilibrium tax rate is the one most preferred by the median voter. When the level of income varies across regions, the equilibrium tax rate in the union does not coincide with the preferred tax rate in each region. Restrictions on regions’ freedom to set their own tax policies makes separation more tempting because the institutional constraint imposed by the union is relaxed. Interestingly, when capital and labor are perfectly mobile, fiscal policies equalize across regions, which should defeat the purpose of seeking independence. But in practice mobility is often sufficiently limited that fiscal policies across regions remain diverse.
Although existing research provides a deeper understanding of secessions, many research questions remain open. For example, when is economic integration alone sufficient to ensure that a union will endure, and when is political integration helpful? What is the role of supranational institutions such as a supreme court? Do the size of firms influence the likelihood of separation?
Alesina, Alberto and Enrico Spolaore (1997) “On the Number and Size of Nations“, Quarterly Journal of Economics, 112(4): 1027-1056.
Bolton, Patrick and Gérard Roland (1997) “The Breakup of Nations: A Political Economy Analysis” Quarterly Journal of Economics, 112 (4): 1057-1090.
Bolton, Patrick, Gérard Roland and Enrico Spolaore (1996) “Economic Theories of the Break-up and Integration of Nations“, European Economic Review, 40: 697-705.
Buchanan, James and Roger Faith (1987) “Secession and the Limits of Taxation: Toward a Theory of Internal Exit“, American Economic Review, 77 (5): 1023-1031.
Casella, Alessandra and Jonathan Feinstein (2002) “Public Goods in Trade: On the Formation of Markets and Jurisdictions“, International Economic Review, 43 (2): 437-462.
Ellis, Christopher and Silke Friedrich (2014) “Public Goods and the Dissolution of States” Working Paper.
Friedman, David (1977) “A Theory of the Size and Shape of Nations“, Journal of Political Economy 85 (1): 59-77.
Spolaore, Enrico (2013) “What is European Integration Really About? A Political Guide For Economists“, Journal of Economic Perspectives, 27 (3): 125-144.
Ruta, Michele (2005) “Economic Theories of Political (Dis)Integration“, Journal of Economic Surveys 19 (1): 1-21.
Wei, Shang Jin (1991) “To Divide or to Unite: A Theory of Secessions”, Mimeo, University of California at Berkeley. [online version not available]