The politics and economics of revenue growth: A cross-national analysis

Abstract Despite considerable interest in comparative fiscal policy in general, and the high salience of tax policy and tax reform in the industrialized democracies, there are relatively few cross–national studies of the economic and political correlates of revenues over time. We undertake a cross–national time series study of revenue growth in fourteen OECD countries between 1958 and 1990.We test a number of political and economic hypotheses about revenue change, including political business cycle, 'fiscal illusion', elasticity, and ideological theories. For the 1958—1990 period, we find that all countries, regardless of revenue structure, experience higher real revenue growth as a result of inflation, but that revenue growth is more responsive to unemployment in countries that rely more on direct taxes compared to countries with less direct–tax reliance. We find that this effect is most pronounced in the post–1972 period. We also find that revenue tends to increase in the years following elections, consistent with the idea that governments try to minimize the political fallout from tax increases by separating them as much as possible from election campaign periods; this effect, too, is most pronounced in the post–1972 period. We find no support for 'fiscal illusion' and ideological theories of revenue growth.     

On the political economy of national tax revenue forecasts: evidence from OECD countries

Sustainable budgets are important quality signals for the electorate. Politicians might thus have an incentive to influence tax revenue forecasts, which are widely regarded as a key element of national budget plans. Looking at the time period from 1996 to 2012, we systematically analyze whether national tax revenue forecasts in 18 OECD countries are biased due to political manipulation. Drawing on theories from the field of political economy, we test three hypotheses using panel estimation techniques. We find support for partisan politics. Left-wing governments seem to produce more optimistic, or less pessimistic, tax revenue forecasts than do right-wing ones. Contrary to the theoretical prediction based on the “common pool” problem, we find that more fragmented governments and parliaments tend to produce more pessimistic, or less optimistic, tax revenue forecasts. We find no empirical evidence that political business cycles play a role in tax revenue forecasts.     

Decentralization and the post–war political economy

This paper uses cross–national data for 21 OECD nations to examine whether there is evidence of a connection between measures of political and fiscal decentralization and the major, long–term, performance parameters of the post–war political economy. Findings of what is necessarily an exploratory analysis of a wide range of policy outcomes suggest that federalism and the proliferation of constitutional veto–points have inhibited the expansion of the socially protective state and that a low level of fiscal centralization appears to have restrained post–war inflationary pressures and gone along with higher rates of post–war economic growth. No evidence is found to connect either political or fiscal measures with postwar labour market performance.     

Elections and the structure of taxation in developing countries

This article analyses the impact of the electoral calendar on the composition of tax revenue (direct versus indirect taxes). It thus represents an extension of traditional political budget-cycle analyses assessing the impact of elections on overall revenue. We appeal to the opportunistic political budget model of Drazen and Eslava (2010) to predict the relationship between taxation structure and elections. Panel data from 56 developing countries over the 1980–2006 period reveals a clear pattern of electorally-related policy interventions. Taking the potential endogeneity of election timing into account, we find robust evidence of lower indirect taxes being applied by incumbent governments in the period just prior to an election. Indirect tax revenue in election years is estimated to be 0.3 GDP percentage points lower than in other years, corresponding to a fall of about 3.4% of the average figure in the sample countries, while there is no such relationship with direct tax revenue.     

Decentralization and the post-war political economy

Abstract This paper uses cross–national data for 21 OECD nations to examine whether there is evidence of a connection between measures of political and fiscal decentralization and the major, long–term, performance parameters of the post–war political economy. Findings of what is necessarily an exploratory analysis of a wide range of policy outcomes suggest that federalism and the proliferation of constitutional veto–points have inhibited the expansion of the socially protective state and that a low level of fiscal centralization appears to have restrained post–war inflationary pressures and gone along with higher rates of post–war economic growth. No evidence is found to connect either political or fiscal measures with postwar labour market performance.     

Tax Structure and Growth: Are Some Taxes Better Than Others?

Using pooled cross-sectional data from 23 OECD countries, between1965 and 1990, I find evidence that the tax structure affectseconomic growth. Specifically, the proportion of tax revenueraised by taxing personal income has a negative correlation witheconomic growth. This result is robust to a rigorous sensitivityanalysis, where I control for other plausible growth determinantsin a systematic manner. Also, there is some empirical evidencethat tax progressivity, measured in terms of the long-run incomeelasticity of tax revenue, is associated with low economicgrowth.     

The Impact of Tax Revenue from Capital Gains Realizations on State Income Tax Revenue and Budget Conditions

We explore the effect of the rapid increase in capital gains realizations on state income tax revenue during the 1990s and 2000s, and the effect that this had on state fiscal decisions regarding the use of these revenue. We find wide variation in the growth of capital gains realizations across states and that the growth in capital gains had a significant effect on state income tax revenue for many states. We find that states used a sizable portion of the additional revenue from capital gains to fund reserves in the year the revenue was generated, and that capital gains revenue lead to some reductions in taxes but not to increases in expenditures. The evidence suggests that states were conservative in their use of capital gains related revenues.     

Tax Structure Turbulence in OECD Countries

This paper analyses whether and to what extent politiciansmanipulate tax structures strategically in order to winelections or for ideological purposes. We introduce anindicator for tax structure turbulence which measures thedegree to which a country's tax structure changes from oneyear to another. Using data on 18 OECD countries over theperiod 1965–1995, we find clear evidence of a politicalbudget cycle in national tax structures. More precisely, wefind that in election years, tax structures are changedsignificantly less than in other years. Further, thedispersion of political power significantly lowers the abilityof governments to change the tax structure. We do not,however, find any evidence of partisan budget cycles innational tax systems following political regime changes.     

The nexus between corruption and capital account restrictions

We provide a formal model illustrating the mutual relationship between corruption and capital account restrictions. Corrupt countries are more likely to impose capital controls because corruption reduces a government’s ability to collect tax revenue. If controls exist, however, individuals try to mitigate the burden by offering bribes, thereby increasing corruption. We test the model using panel data for 80 countries over the period 1984–2002 and find that corruption and restrictions indeed affect each other. Government’s attempts to increase revenue via controls on capital might thus invoke a restrictions-rent-seeking spiral with destructively high levels of both. Using capital controls to increase revenue should be reconsidered.     

Treated politicians,treated voters: A natural experiment on political budget cycles

Although pre-electoral political manipulation of the budget — the political budget cycle (PBC) — has been long investigated by scholars, empirical findings are mixed at best. This is partly because of the non-random nature of election timing. There also exist ongoing debates over how the budget is manipulated for electoral purposes. We address these issues by exploiting a natural experiment in Japan, where the timing of both executive and legislative elections in municipalities is fixed, staggered, and as good as random, and by using the detailed items of the municipal budget. We find that total and capital expenditures follow the PBC, but tax revenue does not. We also find that executive elections are associated with the PBC, but legislative elections are not. Against the conventional wisdom that democratic or developed countries are free from the PBC, our case of Japan offers an intriguing exception.     

State Government Expenditure Determinants and Tax Revenue Determinants Revisited

The primary aim of the research was to test the general hypothesis that many institutional and political variables affect fiscal outcomes; that the preferences of public officials, and the decision processes used to act on those preferences, matter. State government data (state only, not state and local) from 1980, 1985, and 1990 were used to specify state tax revenue and expenditure models. A previous (Merrifield, 1991) state tax revenue model identified many significant institutional and political variables, but it was based only on 1985 data (49 observations). The larger data set (147 observations), including better data for some of the variables, indicated that most of Merrifield's (1991) findings are robust. The state expenditure models facilitated a second test of the general institutional and political variable hypothesis, as well as the hypotheses about specific variables. The expenditure model also facilitated comparisons of expenditure and tax determinants, and comparisons with results published in the literature. Though there are some noteworthy differences between the expenditure and tax models, the expenditure models also supported many of the institutional and political variable hypotheses.     

RISING WITH THE TIDE WITHOUT FLIPPING THE BOAT — ANALYZING THE SUCCESSES AND CHALLENGES OF FISCAL CAPACITY BUILDING IN CHINA

While many developing countries experience a short period of economic boom and then spiral quickly into periods of deficit, currency fluctuation, and indebtedness, China has been able to sustain rapid economic growth and maintain solid fiscal capacity for the past 30 years, even during the Asian financial crisis in the late 1990s and the global recession in the beginning of the 21st century. This article examines three key strategies behind China's fiscal success — its flexibility in adapting tax policies to the changing economic and social conditions, its success in realigning the intergovernmental fiscal relationship in 1994 and forcing subnational governments to become more entrepreneurial in revenue generation, and its pursuit of institutional reforms since the mid‐1990s to improve the government's capacity in budgeting and financial management. The article evaluates the implications of the Chinese experience for other developing countries and discusses the future challenges of fiscal reforms in China. Copyright © 2012 John Wiley & Sons, Ltd.     

Voter Ideology, the Economy, and the International Environment in Western Democracies, 1952–1989

Although it is commonly assumed that voters shift on an ideological spectrum over time, there has been relatively little scientific inquiry into the reasons for shifts in voter ideology. In this article, we attempt to explain why voter ideological shifts occur utilizing an interval measure of voter ideology recently developed by Kim and Fording. A pooled time-series analysis of 13 Western democracies for the period of 1952–1989 identifies several internal and external factors causing shifts in voter ideology. With respect to domestic influences, the state of the country's national economy, primarily inflation, seems to drive movement in voter ideology in a most significant way, but we find that the direction of this relationship is dependent on the ideological disposition of the incumbent government. With respect to international influences, we find significant ideological diffusion across neighboring countries of Western democracies. The effects of ideological diffusion are strongest within countries that are small relative to their neighbors. We also find that ideology is influenced by the international political environment, especially the level of East-West tension during the Cold War.     

Austerity and niche parties: The electoral consequences of fiscal reforms

Austerity policies — policies of sharp reductions of a government's budget deficint involving spending cuts and tax increases — are claimed to boost support for radical political parties. We argue, counter to popular claims, that austerity measures actually reduce support for radical and niche parties. Austerity policies force traditional left-right politics to the forefront of political debate with the traditional mainstream parties having a stronger ownership over those issues. We systematically explore the impact of austerity measures on the electoral fortunes of niche parties in 16 developed countries over a 35-year period, while controlling for a number of socio-economic variables. We find that austerity policies that rely on tax increases affect radical parties on the left and the right in different ways than fiscal adjustments based on spending cuts.     

Do housing bubbles generate fiscal bubbles?

This paper examines the effects of the most recent U.S. housing bubble on the fiscal policy of California cities. We use an instrumental variables approach that helps isolate the fiscal consequences of house price appreciation by taking advantage of the influence of local topological constraints on the elasticity of house prices with respect to interest rates. Our analysis generates three main findings. First, despite Prop 13 fiscal constraints, rapid house price appreciation has a strong effect on property tax revenue. Second, the resulting increase in property tax revenue was largely offset by a reduction in other local tax revenue. This offsetting response leaves total city expenditure unrelated to local house prices. In that sense the housing bubble did not produce local fiscal bubbles. Third, we find that fiscal adjustments to house price appreciation depend on local political institutions.     

Economic Freedom and Taxation: Is There a Trade-off in the Locational Competition Between Countries?

This paper investigates the relationshipbetween economic freedomand taxation. We argue that an economicallyfree environment improvesthe attractiveness of a location, which, inturn, enables governmentsto levy higher business taxes. To test thishypothesis empirically, weestimate the impact of economic freedom onthe national tax policy,where the latter is measured by thecorporate tax revenue related toGNP (corporate tax ratio). We utilize adata set of 46 developed and lessdeveloped countries between 1980 and 1997and find a clear confirmationof our hypothesis. Further, a simulationanalysis reveals that the observedchange in economic freedom has equalizedthe international distributionof corporate tax ratios.     

Electoral misgovernance cycles: evidence from wildfires and tax evasion in Greece

We present detailed empirical evidence from Greece that around elections, misgovernance results in significant increases in wildfires and tax evasion and has important economic implications: these effects have led to the destruction of property or loss of government revenue estimated at 8 % of GDP. There are two plausible reasons why misgovernance might intensify around elections: (i) attention and effort of elected officials is directed to campaigning instead of governing; and (ii) the misgovernance may benefit special interests and serve as a pork barrel transfer that is hard to monitor or control. Empirically, we find that redistributive politics are likely a dominant cause of electoral misgovernance. In the case of wildfires we also find evidence that political competition tends to increase electoral misgovernance; furthermore, electoral misgovernance helps incumbents get reelected. While misgovernance may manifest differently among countries, our analysis suggests that electoral cycles everywhere may be much more multifaceted and harmful than previous literature suggests.     

The growth in Social Security benefits among the retirement-age population from increases in the cap on covered earnings

Analysts have proposed raising the maximum level of earnings subject to the Social Security payroll tax (the "tax max") to improve long-term Social Security Trust Fund solvency. This article investigates how raising the tax max leads to the "leakage" of portions of the additional revenue into higher benefit payments. Using Health and Retirement Study data matched to Social Security earnings records, we compare historical payroll tax payments and benefit amounts for Early Boomers (born 1948-1953) with tax and benefit simulations had they been subject to the tax max (adjusted for wage growth) faced by cohorts 12 and 24 years older. We find that 43.2 percent of the additional payroll tax revenue attributable to tax max increases affecting Early Boomers relative to taxes paid by the cohort 12 years older leaked into higher benefits. For Early Boomers relative to those 24 years older, we find 53.5 percent leakage.     

Tax and expenditure limitations and the fiscal relationships between state and local governments

This paper uses comprehensive data on state and local tax and spending limitations for forty-nine states between 1976 and 1990 to estimate the effects of these limits on the fiscal relationships between state and local government. Results indicate that tax and spending limits on local governments are only partially effective in reducing revenues because political agents bypass limitations by transferring revenue reliance to unconstrained revenue sources, or because unconstrained levels of government take on additional revenue responsibilities. In particular, the empirical analysis demonstrates that binding local government fiscal constraints are associated with reductions in local revenues and increases in state aid to local governments. In contrast, state government limitations are related to reductions in both state and local own source revenues.