Abstract
Prior to the emergence of the fiscal-military state, many monarchs depended on economic and local elites for the collection of tax revenue and defense. Why did these powerful elites allow the ruler to increase fiscal centralization and build-up militarily? Building on historical accounts of colonial Mexico and 17th century England, this chapter develops a game-theoretic analysis that explains why increases in fiscal centralization are more likely when the probability of a threat of internal unrest or external invasion increases. Elites free ride on fiscal contributions under fragmented fiscal capacity. Centralized fiscal collection and enforcement serves as an institutional devise for the elites to overcome free riding and ensure the provision of military protection. The analysis shows that an increase in the probability of a threat is more likely to result in centralization when the alignment between the elites’ and the ruler’s vulnerability to the threat is high, and in the presence of economic growth. The analysis also suggests that institutions that allow rulers to commit, such as representative assemblies, may not be necessary for fiscal centralization to transpire. Examples from European and colonial history provide support for the implications of the theoretical analysis.
Where benefits are not earmarked, ‘somebody else should pay’ is always a powerful motivation in tax policy. Alt (1983, p. 194)
I am grateful to an anonymous referee, David Baron, B. Douglas Bernheim, Paul David, Alberto Díaz-Cayeros, Marc Dincecco, Rafael Dobado, Avner Greif, Luis Jáuregui, Yadira Gonzalez de Lara, Steve Haber, Margaret Levi, Carlos Marichal, Romans Pancs, Alvin Rabushka, Gavin Wright, and the participants at the II International Conference on Political Economy and Institutions in Baiona, the Social Science and History Workshop at Stanford University, and the Workshop on Endogenous Institutions and Political Conflict at UC Berkeley’s Center on Institutions and Governance. This work would have not been possible without the financial support from the Stanford Institute for Economic Policy Research, the John M. Olin Program in Law and Economics, Stanford Law School, and the Center on Democracy, Development, and the Rule of Law (CDDRL) at Stanford University.
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Notes
- 1.
O’Brien (1988, Table 2).
- 2.
Klein (1985, 566–574).
- 3.
- 4.
Rosenthal (1998, 68).
- 5.
- 6.
- 7.
- 8.
A number of studies have expanded this argument and included qualifications. See for instance Stasavage (2002, 2003), and Cox (2011). Ertman (1997) maintains that it is the timing of representative institution-building relative to the onset of wars what explains the variation in fiscal capacity centralization.
- 9.
Further, in times of war, the ruler may discount the future more than other citizens (Levi 1988).
- 10.
- 11.
- 12.
See also Levi (1988, 56–57).
- 13.
This theoretical framework is built on the history of eighteenth-century colonial Mexico. Arias (2012) provides a detailed historical analysis of the successful increase in fiscal centralization and military reorganization in colonial Mexico after the Seven Years’ War.
- 14.
Besley and Persson (2009) and Besley and Persson (2011) study the joint development of fiscal capacity and market-supporting institutions. They also emphasize the salience of a public good for increases in fiscal capacity. Their analysis, however, does not incorporate the role of a powerful elite in blocking fiscal changes. In their comparative study of state finance in Britain and France, Hoffman and Rosenthal (1997) and Rosenthal (1998) illustrate the importance of the difference in preferences for war between crown and elite when fiscal power is decentralized. They do not seek to explain transitions between fiscal regimes but only the impact of regimes on the number of wars fought.
- 15.
Historically, the corporations were represented by local authorities (e.g. majors) or heads of economic corporations or guilds (e.g. aristocrats, merchants or ecclesiasts). Many scholars have stressed the importance of corporate forms in the development of tax systems. For instance, Strayer (1970), Henneman (1971), Prestwich (1972), Bates and Lien (1985), and Levi (1988).
- 16.
Examples of publicly provided private goods include royal monopolies (e.g. exclusive access to trade between specific regions), value added to commodities (e.g. mint silver coins), or the provision of local defense (convoys for merchants, fleets for miners). The collection of specific taxes by corporations also guaranteed loans between rulers and the lending corporations.
- 17.
Historical evidence supports giving the ruler agenda-setting power. Monarchs and public officials typically played an important role in coordinating economic elites and raising the elite’s awareness about the need to negotiate fiscal-military building.
- 18.
This framework does not explicitly incorporate the ruler’s commitment problem regarding t. Once a ruler invests in centralization, the ruler could renege on the agreement in period 1 and forcibly collect tax payments higher than those agreed to (see e.g. North and Weingast 1989). If fiscal capacity is fragmented, this commitment problem between the corporations and the ruler is not an issue. Reputation ensures commitment from both corporations and ruler because exchanges under fragmented capacity rely on private contracts. A threat of reversion to fragmentation from the elite may not be credible, however, after the ruler has increased fiscal centralization. I discuss the commitment problem between ruler and corporations in the conclusion.
- 19.
For instance, some corporations may be able to keep their economic rents even in the case of a British takeover of Spanish colonial territory, say, or they may have their own defense against internal uprisings.
- 20.
This cost captures the effort to assess, collect, enforce, and dispatch taxes locally.
- 21.
The ruler and the corporations could also differ in their perception of the probability of a threat (θ). This can be incorporated in the parameter α i .
- 22.
This non-exclusion assumption distinguishes defensive warfare from predatory warfare. The former is a pure public good, whereas the latter is a private good. The spoils of a war can be promised to only some groups, while others are excluded. For more on the distinction between defensive and predatory warfare see Emerson (1983).
- 23.
I assume the corporations accept the ruler’s proposal when indifferent. This allows me to rule out trivial equilibria. Also, the ruler makes a take-it-or-leave-it offer and so extracts all of the surplus from the corporations. Giving a higher share of the surplus to the corporations makes a transition to centralization more likely as long as the corporations receiving a large share of the surplus benefit from the public good (high α i ).
- 24.
It is an equilibrium for \(\bar{n}<n\), trivially, if all corporations are identical (α i =α for all i).
- 25.
From condition (4), the ruler maximizes by choosing the socially optimal level of private good.
- 26.
This can be seen clearly by rewriting the denominator in condition (7) as follows and comparing it with the denominator in condition (6):
$$\alpha_pY\bigl(G^*,\bar{y}\bigr)-Y(\hat{G},\bar{y})\sum _i\frac{\alpha_i}{n}=\bigl[Y\bigl(G^*,\bar{y}\bigr)-Y( \hat{G},\bar{y})\bigr]\sum_i\frac{\alpha_i}{n}-Y \bigl(G^*,\bar{y}\bigr)\sum_i\frac{\alpha_i-\alpha_p}{n}. $$ - 27.
Many scholars have documented the important changes in fiscal administration and enforcement, and in military capacity, that colonial Mexico and England underwent in the second half of the eighteenth century and the mid-seventeenth century, respectively. For colonial Mexico’s fiscal, administrative, and financial reforms, see for instance Fonseca and Urrutia (1791), Brading (1973, 1987), Elliott (1987), Klein (1998), Jáuregui (1999), Coatsworth (1990), Knight (2002), Stein and Stein (2003), and Marichal (2007). Regarding colonial Mexico’s military reorganization, see McAlister (1953), Gutiérrez-Santos (1961), Fisher (1982), Marichal and Souto Mantecón (1994), Kuethe (1986), Archer (1981, 1978) and Elliott (2006). The main sources for England are O’Brien (1988, 2011), Brewer (1989) and Brewer and Hellmuth (1999).
- 28.
This paragraph summarizes Brewer (1989, 8–13).
- 29.
- 30.
O’Brien (1988).
- 31.
Arias (2012) provides a thorough historical analysis of colonial Mexico supporting the theoretical argument presented here.
- 32.
McAlister (1953, 2).
- 33.
Colonial Mexico was part of New Spain, one of the Spanish viceroyalties in colonial Spanish America. After the conquest, the Spanish crown divided the territory in two viceroyalties, New Spain and Peru, comprising roughly contemporary Mexico and Peru, respectively. In the 18th century, two more viceroyalties were created: New Granada and Río de la Plata. The viceregal governments functioned as a link between the crown in Spain and its subjects in America. Even so, colonial corporations and powerful individuals negotiated directly with the government in Madrid.
- 34.
McAlister (1953, 2–3).
- 35.
Archer (1981, 315).
- 36.
McAlister (1953, 7).
- 37.
- 38.
Elliott (2006, 292). The conflict in North American soil began in 1754, two years before the formal outbreak of war in Europe.
- 39.
Fisher (1982, 219).
- 40.
- 41.
- 42.
- 43.
Elliott (1986, 246–274).
- 44.
Notice that fiscal fragmentation serves as a commitment devise for the ruler to pay its debts. By granting the corporation/debtor the right to directly collect certain taxes, rulers were able to obtain payments in advance and guarantee the service of interest and repayment. The major legal form used for this transaction in Spain and its colonies were the asientos. Asientos were contracts between the Crown and a private corporation or individual through which the latter promised to pay an amount to the Crown in exchange for the right to make use of the revenues resulting from a specific royal tax. See Domínguez Ortiz (1960), Conklin (1998), and Alvarez-Nogal and Chamley (2011). For the case of England, see Brewer (1989, 93).
- 45.
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Arias, L.M. (2013). A Collective-Action Theory of Fiscal-Military State Building. In: Schofield, N., Caballero, G., Kselman, D. (eds) Advances in Political Economy. Springer, Berlin, Heidelberg. https://doi.org/10.1007/978-3-642-35239-3_3
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