Determinants of Fiscal Capacity: history, geography or politics? Antonio Savoia, with R. Ricciuti and Kunal sen Effective States and Inclusive Development (ESID) research centre University of Manchester DSA 2014 Conference, London

This paper… Looks at long-run factors affecting state capacity Asking whether historical, geographical or political factors matter Using a new database, capturing better the concept of fiscal capacity Evidence that the states are more effective at raising revenues when the have stronger systems of checks and balances

1. Context and motivation Governance matters! State capacity as an ingredient for effective governance. – Focus on property rights, but recent research looks at state institutions… Gap in empirical research on the determinants of effective states; no systematic analysis See Savoia and Sen 2014 review Journal of Economic Surveys

What is state capacity? Definition: institutional capability of the state to carry out various policies that deliver benefits and services to households and firms (Besley and Persson, 2011, p.2). In practice we have a series of capacities, according to the functions states perform (e.g., legal, infrastructural, military) However, they tend to move together – Have strong complementarities and common determinants

What is fiscal capacity? Fiscal capacity: the state’s ability to raise revenues from taxes Shown to be key determinant of long-run economic development (see Dincecco and Katz 2014 EJ) 2

Which forces shape state capacity? Historical – Incidence of external conflict – Length of statehood – Legal origins Geographical – Natural resources abundance – Population density Political economy – Executive power subject to checks and balance

2. Fiscal capacity: data Exploit a recent database: Public Expenditure and Financial Accountability (PEFA) Dependent variables (coded on 0-3 scale): – “Clarity and comprehensiveness of tax liabilities” – “Existence and functioning of a tax appeals mechanism” – “Effectiveness in collection of tax payments” – “Aggregate revenue out-turn compared to original approved budget”

Explanatory variables Proportion years in external conflict Urban population (% of total) State antiquity index Constraints on the executive (Polity IV) Total natural resource rents (% of GDP) Controls: legal origins, ethnic fractionalisation, inequality, internal conflict, aid, regional dummies

3. Methods Cross-section regressions Sample: ranging from 63 to 40 developing economies Identification issues: instrumental variables methods to account the potential endogeneity of political systems 2

4. Results and findings There is limited evidence in favour of the ‘historical variables’: stronger for length of statehood than incidence of external conflict. ‘Geographical variables’ receive inconsistent support. The level of constraints on the executive seems to be the most robust predictor of fiscal capacity.

Implications Evidence supporting the importance of political institutions. Good news in policy terms? – Yes: unlike history or geography, institutions results from collective choices – Not quite: institutional reforms are not an easy task (e.g., role of elites) 2

State capacities Bureaucratic and administrative Legal Fiscal Infrastructural Military 2

Besley and Persson on fiscal and legal capacity Fiscal and legal capacity as a joint investment problem Idea of complementarity Prediction: fiscal and legal capacities have common determinants – factors that raise fiscal capacity are expected to raise also legal capacity and vice versa – Three types states: common-interest states; redistributive state; weak state

Theory of fiscal and legal capacity