The Keynes Society was delighted to virtually host Professor Sir Timothy Besley, a world-renowned economist in the field of development economics and development policy foundations. Professor Sir Besley is a professor of development economics at the London School of Economics and a fellow of All Souls College Oxford, having served on the Monetary Policy Committee of the Bank of England and as President of the Econometric Society.
The talk focused on the links between state capacity and economic development, beginning with a short quote from famous economist Joseph Schumpeter.
“The fiscal history of a people is above all an essential part of its general history. An enormous influence on the fate of nations emanates from the economic bleeding which the needs of the state necessitate, and from the use to which the results are put.”
– The Crisis of the Tax State, 1918.
Professor Sir Besley focused on the role of taxation in the building of modern, effective states. Arguing that the role of government stretched far beyond the reach of the taxman, Besley highlighted the importance of political economy when dealing with development economics; according to him, economic development is intimately linked with politics and law: the construction of an effective and capable state, which can effectively tax, enforce laws, regulate, and maintain social order.
What do we mean when we refer to state capacity?
State capacity is the ability of a government to carry out two essential functions:
- Build coercive power through legislation, enforcement agencies (police), and prosecution services (the legal system).
- Encourage voluntary compliance (for example, when paying taxes).
Building state capacity is the most crucial component when supporting economic development, argues Besley; it is why many countries today remain persistently under-developed.
Had we lived 100 years ago, we would have (in all likelihood) had a government that raised approximately 10-12% of GDP in the form of taxes, mostly spent on small infrastructure projects and national defence. Familiar roles of government — which we take for granted today (such as old age support, secondary education, and universal healthcare) — did not exist.
The 20th century saw a remarkable change in the nature of the state. Through the introduction of new taxes, such as income tax, by the year 2000, the majority of developed countries were raising taxes above 25% of Gross Domestic Product (the total value of all the goods and services produced in a country within a year). Not only were tax revenues higher, but they also were used (mostly) more effectively. The construction of effective oversight mostly held governments to account for their actions, reducing the wasteful spending associated with corrupt governments. If the tax system is perceived to be fair, taxpayers are far more willing to contribute. Professor Sir Besley highlighted a recent survey on “tax morale” (whether people believe it is “right” to pay taxes), which found that, in wealthier countries, more people tend to think that it is important to pay taxes.
State capacity expands beyond taxes. Most high-income countries also protect property rights (the legal ownership of resources and how they can be used). Property rights are the foundation of a flourishing market economy, allowing you and only you to reap the rewards of your labour. A lack of property rights protection, caused by political instability and war, is a significant barrier to economic development.
Professor Sir Besley went on to reason that, to facilitate a transformation towards economic development, two things that have to happen:
- States need to be more effective in terms of coercion. Here, “coercion” should not be confused with “authoritarianism”; coercion refers to regulations, a legal system, and regulatory enforcement. State capacity also requires effective oversight through the legislature (Parliament/Congress), the courts, and the media — absent in most authoritarian states.
- The state must build a “social contract”: a sense of voluntary compliance through a sense of obligation, which Professor Sir Besley succinctly summarised as “civic-mindedness.”
What, then, is the “opposite” of state capacity, or state fragility?
These are states that have been ineffective in enforcing coercive powers and instilling civil-mindedness, usually through a combination of reasons:
- War, terrorism, and organised violence pose serious security threats.
- The government lacks legitimacy in the eyes of citizens.
- The state has a weak capacity for essential functions and may rely on foreign aid.
- The environment for private investments is unattractive, as property may be easily seized by the state or other organisations.
- The economy is exposed to shocks with little resilience.
- There are deep divisions in society, often ethnoreligious tensions. The government is unable to get citizens to work together and solve problems.
Professor Sir Besley then focused on potential solutions to building state capacity, which he argued is a precondition for effective state intervention in a market economy. He focused on two main routes:
- Initiate institutional reform through the introduction of checks and balances.
- Culture change: creating cohesion (a sense of common purpose) and civic culture.
In his talk, Professor Sir Besley believed that the most intractable problem with achieving economic development is that states have not created state capacity. Through these proposals, developing countries can establish a market economy. Institutional reform should, in theory, enhance property rights, as well as the government’s legitimacy. Greater legitimacy allows the government to wield coercive power, while also opening the door to voluntary compliance.
After opening the floor to the audience, Professor Sir Besley focused on the role of authoritarian states. Emphasizing the fact that authoritarian rule has been the norm in our history, Besley pointed out that these states still need to build tax morale and cannot be purely coercive. Many countries have been held together under authoritarian regimes, which emphasise building a compliant civil culture. Although he did not focus on specific examples, Besley also highlighted the inherent instability behind authoritarianism: power lies in the grip of a few people, who may — on a whim — either decide to be benign (either because they are public-spirited, or fear revolution), or abuse state power for personal gain. An interesting anomaly in this argument is the case of authoritarian oil-rich states, as they do not need to build compliance or civil-mindedness: they can easily collect sufficient tax revenues simply through taxing oil.
Professor Sir Besley also addressed a series of questions on the UK’s tax system, contending that it has had a long-term tension in fiscal management (government spending and taxing): the UK seems stuck between wanting a comprehensive Scandinavian-style welfare state and a minimal American-style tax regime. Furthermore, there is little political will to reform UK taxes; Professor Sir Besley focused on the example of the two-tier structure of National Insurance and income tax. He argued that the public was beginning to question certain aspects of the taxation system, particularly considering the ease with which wealthy people can avoid taxes.
On behalf of the Keynes Society, I would like to thank Professor Sir Tim Besley for delivering an engaging and eye-opening talk to our community. It was a perfectly pitched discussion, accessible to everyone in the audience; we learnt a great deal and thank Professor Sir Tim Besley for his time.