Fiscal capacity in non-democratic states

Abstract

Investments in fiscal capacity have traditionally been linked to warfare and democratization. However, non-democratic states also invest in fiscal capacity, even in times of peace. In fact, the majority of income taxes – a prime example of an investment in fiscal capacity – were introduced by non-democratic states in peace time. In this paper I argue that institutions such as parliaments or councils of nobles – which were implemented to solve commitment problems between ruler and elite in the face of a challenge to the regime – also solve commitment problems related to investments in fiscal capacity. Institutionalized power-sharing ensures the elite of future influence, and thus reduces the risk of the ruler using the expanded fiscal capacity opportunistically. The empirical implications are straight-forward: income taxes are more likely to be introduced in nondemocratic states with power-sharing institutions. I find support for this prediction by analyzing several new, high quality, historical datasets over political institutions, the introduction of taxes, and government tax revenue, covering as many as 54 countries from the early nineteenth century to the present day.