Veto Institutions, Hostage‐Taking, and Tacit Cooperation

We analyze the effects of veto institutions in a dynamic model where control of the legislative and executive branches fluctuates between two parties. In our setting, there are universal projects (benefiting both parties) and partisan projects (benefiting one party at the expense of the other). When government is divided, the legislature can leverage the universal project to achieve a lopsided and dynamically inefficient distribution of partisan projects under the absolute veto. While the line‐item veto eliminates this type of hostage‐taking, it also prevents beneficial logrolls. A novel institution, the alternating line‐item veto, can both eliminate hostage‐taking and preserve beneficial interparty logrolls. No veto institution prevents dynamically inefficient, lopsided outcomes under unified government; this can only be done through norms, and we show that a no‐veto regime, or a regime with a line‐item veto, best facilitates such a cooperative norm.