Why are taxes in Scandinavia so high?

A difficulty for conservatives is that the most prosperous countries in the world include Norway, Sweden or Denmark, whose size of government exceeds 50% of GDP, casting doubt on the idea of laissez-faire. H.J. Kleven explains in the Journal of Economic Perspectives why these countries are able to tax so much and be so wealthy at the same time, given that taxes in general distort economic activity and have a cost in terms of efficiency. He finds three main reasons:

First, information reduces tax evasion: he argues that Scandinavian tax systems have very wide coverage of third party information reporting, and more generally, well-developed information trails that ensure a low level of evasion.

Second, broad bases reduce tax avoidance: there are few exceptions and reductions, so that behavioral tricks cannot be used to avoid paying taxes. One example is focusing on high indirect taxation (25% of VAT rate), which although paradoxically is regressive, has lower efficiency costs than direct taxation.

Third, taxes and public expenditures are complementary of labour supply, for example promoting the work of women or investment in human capital through good education systems.

Kleven also explores the argument that all this is cultural and social, and based on the irreplicable fact that these societies are small and homogeneous. He argues that the social features that support this line of reasoning are also endogenous to the policies, and therefore there is no reason why lessons cannot be extracted for larger democratic aggregates.

Corruption and investment

I came across an empirical article that reports that corrupt countries attract more private investment in infrastructure, and another one (also empirical) that reports that companies that appoint former politicians as directors do not benefit from it. Are these two findings compatible? I believe they would hardly be compatible in the same data base. That is, if the measure of corruption is the presence of former politicians in firms (more lobbying than corruption), then if firms enter systematically countries where they need to appoint politicians to obtain profits, they should make profits from this. Alternatively they would be making two mistakes: appointing useless former politicians, and entering countries where they make no profits. I do not exclude it, but it seems difficult. More likely is simply that these two results are compatible because, as they do, they use two totally different data bases. One is a cross-country data base about the institutional determinants of private investment in infrastructures, and the other is a study of political connections in Australian firms. The first finds that firms invest in corrupt countries perhaps because they expect that corruption is a protection against the risk of expropriation in industries that require huge sunk investments. The second is not the first study on political connections that reports a negative effect of political appointments on shareholder value, perhaps because managers or shareholders make behavioural mistakes in the market for directors (like soccer clubs make mistakes in the transfer market). It could be that the corruption that makes infrastructure investment attractive is not achieved through political connections, but through other means. And/or it could be that in countries other than Australia the firms that make political appointments do benefit from it. In other words, one should be very cautious making extrapolations and inferring external validity from the results obtained with very specific measures and samples.

Learning from academic blogs

I have serious doubts that writing in blogs has net benefits for authors. I do it because I can communicate simple ideas and test conjectures in a way I cannot do in other formats (such as academic articles or newspapers pieces, or in class with my students), but also because of narcissism, self-esteem and feeling well with myself, I have to admit. But it has costs in terms of distraction and risks in terms of expressing opinions I may regret in the future. There is a trade-off between these two costs: trying to minimize distractions I write fast, but writing fast increases the risk of sooner rather than later regretting what I wrote. Never mind. However, some academic blogs are really good and one can learn a lot from them. I don't mean here and now only the most famous blogs, such as the one by Paul Krugman (which I follow and recommend). Just following four less known of them lately I came across a number of references that have been really illuminating, about a variety of topics that range from economic history, to violence and ethnicity, the role of institutions in economic development, and many others. These four blogs are "Pseudo-Erasmus," "The Growth Economics Blog", the blog by Chris Blattman, and "A Fine Theorem". I recommend all of them and just wish that their authors need them for self-esteem reasons and don't do any cost benefit analysis at the individual level of what they are doing. This does not mean that all they say or all the papers and books they recommend are necessarily right, but I think they all focus on frontier top research on relevant topics for politics and economics today. Sometimes they challenge my beliefs, but that is healthy precisely to minimize the risk I mentioned of regretting later what one writes in his own blog.

Allocation, distribution and institutions

In my last class in the MAREB course in Applied Micro (Javier Asensio takes over in the next few days) I tried to explain the economic role of institutions, borrowing ideas from Samuel Bowles and Masahiko Aoki, and setting the stage for the students to follow and engage in the debate around the book by Acemoglu and Robinson, "Why Nations Fail." I emphasized two ideas:
-That in a game-theoretic analysis of institutions as the rules of the game and also as the equilibrium of previous games, a key component is the combination of allocation and distribution inherent in most interactions (games). Human interactions usually have both a common interest component and a rivarly component (unless they are zero-sum games, but these are unusual). To improve efficiency humans have to agree on how to share the benefits. Elinor Ostrom and Dani Rodrik expressed similar ideas in other contexts. Cearly to me, this is the reason why fixing climate change and solving problems of federalism (for example in the European Union) can only be done from this perspective.
-An important role for institutions is to align beliefs. Without any beliefs about the choices of other interacting agents, we may give equal probabilities to all their potential actions, and then fail to attain outcomes that clearly would be in everybody's interest. Institutions as salient beliefs of how games are played and how games in different domains (economic, political, social) relate to each other are key aspects of how to coordinate into outcomes that are possible but require solving social dilemmas.

Federalist roads not taken (yet)

Today most of the citizens living in democracies do so in democratic federations: the United States, Canada, Australia, Switzerland, Southafrica, Germany, India... Many live in increasingly federal organizations, such as the European Union. However, some of the key problems of the world may be related to federalist roads not taken by some of the jurisdictions that remain unitary states.
For example, in "Zionism. The Roads not Taken," Noam Pianko explains the intellectual history of ideas in the Zionist movement that did not see state sovereignty and self-determination as the only or best solutions to the Jewish community. Of course this resonates with the idea of the one state solution, which is today unfortunately seen as unrealistic in the Middle East.
Another example comes from the history of China. In a recent paper, the great Japanese economist Masahiko Aoki touches again on the issue of Chinese federalism in the early Twentieth Century, and how the appeals of Chen Jiaming did not succeed in front of the centralist tendencies of the Communists and the Nationalists, although he was later praised by Bertrand Russell or even Mao Zedong. Today, some de facto federalist aspects of the modern Chinese economy ("market preserving federalism") are seen as key aspects of its recent spectacular growth. Others see it necessary for the current Chinese government to reform the state in an openly federalist direction, and as mentioned earlier in this blog, Milanovic believes that if China ever becomes a democracy, it will have to be under a good federal system, to balance the enormous regional disparities that exist there.
Finally, Bates et al. explain how some attempts to build federations larger than the current nation-states in both Africa and Latin America failed in the Ninetieth and Twentieth Centuries, which contributes to explaining the dismal post-independence performance of these regions, as they were unable to consolidate the transnational public goods that were left by the previous empires.
Perhaps today we would be living in a better and more secure world if instead these roads had been taken.

Strategic delegation of regulatory sovereignty

The jurisdictional location of the regulation of public utilities went at the end of the XIX century from the local level to the state level in the United States, more for political reasons than for technological reasons. It was an example of strategic delegation of regulatory sovereignty. Instead of delegating into an independent regulator, municipalities delegated into the states, because these provided a calmer regulatory climate that made it possible to assess the trade-offs involved in the regulation of utility industries such as gas or electricity. According to Werner Troesken, Mancur Olson argued that over time institutions tend to ossify and slow economic growth as entrenched interest groups work to secure a greater share of society’s resources. Olson’s work suggests that transitions in regulatory and governance regimes—whether from market-oriented to statist, or vice versa—can dramatically improve the operation of markets. Troesken argues that technological and ideological change can only partially account for the circularity of public utility regulation over time (from market to state, from one jurisdiction to another). Olson’s theory of institutional ossification, which suggests that occasional regime changes are desirable in public utility markets, provides a more complete explanation. I believe that a similar argument could be used today to transfer more regulatory sovereignty from the member states of the European Union to the European level. This level has already an important role, but it still leaves a lot of discretion to the states. If we focus on the case of the Spanish electricity reform, we realize that the national polity has become unable to balance the different objectives in a reasonable and stable way. This adds to the many technological reasons for which regulatory problems go beyond national borders. Paradoxically, the lack of development of a European demos could be beneficial to develop a better institutional apparatus in a calmer regulatory climate.

Insects and humans are not that different

I don’t know if the title of this post gives an optimist or a pessimist message. On the one hand, I believe that we should not exaggerate the superior intelligence of humans, or at least the enhanced efficiency of the superior intelligence of humans, which as we know can serve disastrous outcomes. That is the pessimistic part: I don’t think that humans are much better than insects. On the other hand, social insects are amazingly efficient, and have brilliantly solved institutional problems at the collective level. That is the optimistic part: we can be good at solving collective problems. Bernard Crespi contends that humans have evolved convergently to social insects with regard to key selective pressures and genetic substrates favouring care by individuals in addition to the mother (henceforth referred to as extra-maternal care). As a result of this convergent evolution, humans are actually more similar to social and cooperatively-breeding insects than to most social vertebrates, for a suite of interacting social and reproductive traits. Groups of both humans and social insects have discrete boundaries and cues of unique identity (culture and language, or chemicals), that allow individuals to readily distinguish members versus non-members. Conflicts are well-documented, within groups, between sets of individuals harbouring divergent fitness interests (e. g., parents and offspring, or factions of kin), but they are usually more or less resolved and tend to impose low costs on total group reproductive output. In this sense, human religions may be interpreted as evolving a sense of cohesiveness in large groups that is similar to the cohesiveness of groups of social insects such as ants or bees.

The independent regulator goes to Chile

In work I did with Miguel A. Montoya on independent regulators in the telecommunications sector in Latin America, based on his PhD thesis and a data base he constructed, one of the paradoxes we found was that Chile, a country that is known for its institutional quality, had the lowest levels of regulatory independence. The reason was that this country committed to respect sunk private investments not through independent regulators that were immune to political or public opinion pressures, but through a very detailed legislation coupled with a political system that made legislative change very difficult. However, this commitment device was vulnerable to unforeseen contingencies, which have tended to arise as time went by. The fact is not only that unforeseen contingencies have occurred (extreme weather events, new technologies) but also that legislative change is more and more possible, as new generations demand a more open democracy than the one inherited from the Pinochet dictatorship. Hence the progress of independent institutions in microeconomic policies, like the expert panel in the electricity sector, which has been operating since 2004, or the very independently chosen Antitrust authority, where even the Central Bank has a more important role in the appointment of members than Parliament. There is a long history and tradition of independent agencies, commissions, and expert (even foreign) missions in Chile, although ultimately what will make reforms that are both efficient and equitable sustainable will be political changes that expand opportunity and at the same time promote high investment in a more diversified economy. James Robinson, one of the authors of “Why Nations Fail,” had a suggestive presentation some time ago on this interpretation of the changes that are necessary in the trajectory of Chile, to make it more similar to a country like Australia. It is to be seen whether the reforms that are being introduced as a result of the mass mobilizations in 2011 will promote such decisive changes.