FROM MANIPULATION TO CAPACITY: UNDERSTANDING FACTOR PRICES, CORRUPTION, AND THE STATE

Abstract

The conventional wisdom posits that a prudent fiscal policy coupled with low taxation is a catalyst for economic growth. However, a striking paradox emerges in the literature, as empirical evidence indicates that tax revenue-to-GDP ratios tend to be higher in developed nations compared to their less developed counterparts. For instance, countries like Sweden and France exhibit tax ratios of 50% and 48%, respectively, while the United States registers a ratio of 26%. In stark contrast, nations such as Gabon, Congo, and Chad report significantly lower tax ratios, ranging from 4% to 10%. Rather than focusing solely on the correlation between fiscal policies and economic growth, this study delves into the underlying factors that explain this apparent inconsistency.

Drawing inspiration from North's seminal work (1981), which emphasizes the role of the politically determined social structure, including tax regimes, in maximizing returns for elite rulers or politically influential groups, we propose a novel perspective. North contends that an inherent tension exists between political structures designed to benefit the ruling elite and efficient systems conducive to fostering economic growth. This tension, in essence, underscores the fundamental question not of whether high taxation inherently promotes or inhibits growth, but rather whether the prevailing political regime leans toward extractive or inclusive practices. In the context of many less developed countries (LDCs), it becomes evident that their economic shortcomings and low tax revenues are primarily driven by the extraction of resources by corrupt governing elites.

This research challenges the conventional wisdom by highlighting the pivotal role of political structures and elite extraction in shaping fiscal policies and their impact on economic growth. By scrutinizing the nexus between political regimes, taxation, and economic outcomes, we seek to provide fresh insights into the complex interplay of factors that contribute to the diverse economic landscapes observed across nations