Political conflicts, the role of opposition parties, and the limits on taxation

Abstract

In democratic systems, the rich have diverse channels through which they can influence policies. In a model of taxation, I study the capacity of the rich to constrain the fiscal choice of a government by starting a costly political conflict (for example, a press campaign), which imposes a cost on the government and influences the fate of the government's fiscal plan.I show that the government's tax proposal depends critically on the marginal disutility of taxation for the rich. This approach provides a new rationale for the empirically documented U-shaped relationship between inequality and taxation. It also highlights a new role for opposition parties. By agreeing to bear part of the cost of a political conflict in exchange for compromise, the opposition makes Pareto-improving arrangements possible. KeywordsPolitical conflict; opposition party; coalition; taxation 1 In May 1924 in France, a coalition of left-wing parties the Cartel des Gauches won the general election with a promise to tackle a mounting public debt problem through capital taxation. In July 1926, as demonstrations were staged in front of the French Parliament and monetary panic spread, the Cartel was replaced by a center-right coalition. During the Cartel's tenure, the rich and the business community strongly opposed any attempt by the government to impose a capital levy.This opposition took the form of capital evasion and a massive press campaign against a capital tax, eventually swaying public opinion against the governing coalition. 1It is well understood that the poor have the capacity to constrain the rich in autocracies (Acemoglu and Robinson, 2005). In unconsolidated democracies, the rich might exert undue influence by threatening coups or unrest (Ellman and Wantchekon, 2000;Dal Bó and di Tella, 2003). In consolidated democracies, the rich can use contributions (e.g., Rodriguez, 2004) or independent expenditures (as the Koch brothers' support for Governor Walker illustrates). As the example of the Cartel illustrates, the rich also have the capacity to constrain the fiscal policy of a government opposed to their interests by taking actions that hurt the party or coalition of parties in power.In this paper, I study this last channel of influence in a stylized model of taxation. A government (referred to by the pronoun "he" throughout) chooses a tax level under the threat of political conflict by the rich who dislike redistribution. A political conflict is costly to organize for the rich, and this cost is their private information (for example, it can depend on their ability to coordinate their actions). It has two effects on the government. First, it imposes a direct utility loss (for example, due to the cost of mounting a public relation campaign to defend the government's plan or the increased risk of losing the next election). Second, with some probability, a political conflict forces the government to abandon his fiscal project (for example, it might sway public opinion against the government's tax proposal as in the case of the...

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“…But this cannot be an equilibrium either because a (or l) can go all the way and promise ta = since the gain in vote share max fv l (t 0 l = ) v l (t 00 l = 0)g might exceed the loss in utility that is now incurred by the fact that party L wins with certainty. 38 de…ning V p ( l ; a ) = R 0 R 0 V p (t l ; t a )d l d a for all ( l ; a ) 2 . Then, in turn, better-reply security of G implies two conditions: (i) reciprocal upper semicontinuity and (ii) payo¤ security along the diagonal.…”