Freedom through taxation: the effect of fiscal capacity on the rule of law

Ryan H. Murphy and Colin O’Reilly ()
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Ryan H. Murphy: Bridwell Institute for Economic Freedom, Southern Methodist University Cox School of Business
Colin O’Reilly: Creighton University

European Journal of Law and Economics, 2023, vol. 56, issue 1, No 3, 69-90

Abstract: Abstract This paper explores the effects of fiscal capacity on the rule of law. We view the question as a natural outgrowth of the stationary bandit model, that rulers are incentivized to make investments in public goods when they are able to extract wealth effectively. We test the relationship using fiscal capacity and rule of law data from the Varieties of Democracy dataset. We leverage the lengthy time-series found in the dataset by employing the dynamic common correlated effects (DCCE) estimator to supplement standard panel methods. Unlike the widely used fixed effects method, DCCE method adjusts for the presence of econometric issues including cross-sectional dependence, heterogeneous slopes, and unobservable common factors that plague the error-structure in panel data. We observe small, positive effects of fiscal capacity on the rule of law, but robustness checks lead us to conclude that our findings, overall, only weakly support the hypothesis.

Keywords: Fiscal capacity; Legal capacity; Rule of law; Institutional development; State capacity; Stationary bandit (search for similar items in EconPapers)
JEL-codes: H20 K00 O43 P10 (search for similar items in EconPapers)
Date: 2023
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DOI: 10.1007/s10657-023-09772-x

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