by

Charles B. Blankart^*)

Humboldt-University of Berlin

1. Three "Iron" Laws

When I was a student of economics in the early 60ies the prevailing view on public finance was relatively simple: Public revenues were regarded as separated from public expenditures, and public expenditures were dominated by three fundamental pillars: Wagner’s law of increasing government expenditures as a share of GNP, Brecht’s law of higher per capita expenditures of larger cities, and Popitz‘ law of increasing government centralization. For me as a student public finance appeared as well structured discipline, predictable in the exams and therefore with a small risk factor, but with little intellectual attractiveness. That this doctrine was not the full truth became evident for me when I have read, some years later, James M. Buchanan’s Public Finances (1965). Therein I have found an alternative view of these "iron laws", as can be seen, e.g., from his remarks on Wagner’s law:

"...many historical and institutional reasons may be adduced to explain why the economy has become increasingly collectivized, especially over the past quarter century. But a more fundamental examination may be helpful; institutions are themselves patterns formed by individual decisions, and there are no immutable historical laws." (p. 50)

In the mid seventies I accepted an invitation to the Center for Study of Public Choice in Blacksburg where Wagner’s law was in full discussion as an outflow of the previous seminar of the Center’s members on this topic and where the publication of the book Budgets and Bureaucrats to be edited by T. E. Borcherding (1977) was approaching. With these discussions, the first pillar of my former doctrine has got a theoretical foundation. For the two other pillars, Brecht’s law and Popitz‘ law, I have found a more theoretical basis in the writings of W. J. Baumol (1967) and W. E. Oates (1972).

Nevertheless Popitz‘ law of increasing government centralization still remained somewhat in the shadow of scholarly interests. This has induced me to collect some historical material and to interprete it with the tools of economics. I shall not develop a theoretical model, but simply present an economic view of a historical episode for James M. Buchanan’s birthday.

 

2. Perceptions and Misperceptions of Popitz‘ Law

Johannes Popitz (1884-1945) was an academic at Friedrich-Wilhelms-University, the later Humboldt-University of Berlin. He served as a secretary of state in the federal treasury during the twenties. There, he studied the political process in Germany during the transition from the Kaiserreich to the Weimar Republic and found that the federal government gets increasingly involved in the affairs of state and local governments, the latter lacking the resources to execute central government legislation and to overcome local emergency situations. In the Handbuch der Finanzwissenschaft he wrote: "... they [the state and local governments] lack the elasticity to raise the resources or to save elsewhere for this purpose... In a realistic consideration of politics, the power of attraction of the central government becomes inevitable. There is no effective panacea against it." (J. Popitz, 1927, pp. 348-49, translated by Ch. B. B., italics in the original text). This hypothesis pronounced so emphatically by the author has been given the name "Popitz‘ law".¹

There are many theoretical problems with Popitz‘ law which will not be recorded here. But two issues of continuing confusion are worth mentioning.

The first concerns measurement: Many authors use National Accounts data as provided by the OECD and other institutions to measure the degree of government centralization. These publications provide data on central government and general government revenues and expenditures, wherefrom it can be seen what has always been expected; e.g. that Germany is a less centralized country compared to unitary states such as France and the United Kingdom. It is disregarded that these data represent but allocations of revenues and expenditures to particular levels of government and provide no information on which level revenues and expenditures have been decided. For measuring centralization, however, decision seems more important than allocation. According to the decision criterion the picture is quite different: Germany resorts as a highly centralized state in which 95% of the taxes are decided on the federal level.

A second issue concerns the so-called Bryce law, referring to the British historian James Bryce (1838-1922). This law is often regarded as the American equivalent to Popitz‘ law. It has probably been invented by the Canadian law professor E. McWhinney (1965) who claims that Bryce’s Law is "the maxim that federalism is merely a transitent governmental form on the way to unity"² (p. 4 and p. 105). From this book, Bryce Law entered into the economic literature and became popular there. E. McWhinney, however, did not provide any reference on Bryce. Closer investigation of J. Bryce’s voluminous works revealed, however, that this author was much more ambiguous on the centralization issue. In a long run evaluation of political developments since the old Egyptians (J. Bryce, 1901), he found that some nations increasingly consolidate and others break up. But in a 19^th century optimism on nationalism and colonialism he felt that the "centripetal" (centralizing) forces in a nation will generally dominate over the "centrifugal" (decentralizing) forces. The spirit of nationalism will hold nations together unless they are composed by different tribes. In such cases centrifugal forces may prevail. Hence Belgium has split from the Netherlands, Greece from the Ottoman empire and Hungary from Germanic Austria etc. (1888, vol. III, pp. 652-3). A well designed constitution, however, may "keep the centrifugal and centripetal forces in equilibrium", and he praises the American Constitution for having succeeded in solving this problem (1888, vol. I, p. 472-3). Under such more "normal" conditions a tendency towards centralization may prevail (1888, vol. III, p. 653). But it was, in my view, not J. Bryce’s intention to predict a tendency towards a unitary state as suggested by E. McWhinney. Whether one should speak of a Popitz-Bryce-Law for nations as suggested by W. E. Oates, may be left open. Here I shall mainly deal with local governments which are less in J. Bryce’s interest. Therefore I shall use the expression of Popitz‘ law.

 

3. Local Communities in Prussia and in Germany

Under decentralized government local communities make their own taxing and spending decisions. They enjoy fiscal autonomy. In centralized governments, in contrast, they are merely tax collecting and payment executing agencies of the larger unit. J. Popitz has believed in a natural tendency from the former to the latter, i.e. in "the attractive power of the highest purse" (J. Popitz, 1927, p. 348). In this section I shall review a piece of history of the Prussian and later German townships and local communities in this respect.

1. Early Fiscal Autonomy

Since the Middle Ages townships in Prussia (as well as in most other parts of Germany) have enjoyed considerable fiscal autonomy. They have been liable to pay a yearly lump sum to their sovereign, which the latter could not arbitrarily increase and the former not arbitrarily decrease. Hence the arrangement was relatively stable. On this base the townships were able to develop a tax system causing relatively little harm to their economy. Care has been taken that the rich were not taxed too much in order not to induce them to leave the town. Similarly the non tax paying rich, clergy and nobility, were disencouraged to acquire property in the town in order to settle there. For it should be avoided that the so-called "dead hand" shifts the tax burden on the active part of the population. Apart from these lump sums to the sovereign, townships were autonomous to raise their taxes to pay for their own needs. They used direct (property) taxes as well as indirect (excise) taxes.

 

2. Mercantilism and the Loss of Local Fiscal Autonomy

These principles of fiscal autonomy as a rule have been disturbed by long periods of wars which I shall disregard now. After the Thirty Years‘ War and the Peace Treaty of Westphalia, a number of nation states have emerged in Europe which can be said to have been in an oligopolistic empetition among each other. Their sovereigns wanted to increase their power for which they applied the doctrine of mercantilism. So did King Frederic William I of Prussia (1713-1740). He taxed imports, prohibited exports of important raw materials (mainly wool), promoted manufactures and attracted French refugees as qualified manpower.³ All these measures could, however, only increase the King’s power if the rents generated by mercantilism flowed in his purse. Mainly two alternatives were open to him: He could have demanded a larger lump sum from the towns. But how much larger could it be? The township’s maximum ability to pay was presumably difficult to observe. In order to overcome this problem he decided to abolish the local fiscal autonomy in 1722 and to send his own royal officials into the towns. They have been given full authority over local taxation and tax administration. The new system has turned out to be quite effective for the King. The tax revenues collected from the towns (as well as non-local revenues, e.g. from excises) have grown enormously. They allowed the King to man an army of 80'000 soldiers guaranteeing the enforcement of the royal decrees, and to accumulate the military chest supporting his international prestige and power.

Popitz‘ law of increasing government centralization is obviously confirmed in the era of mercantilism. Even J. Popitz‘ thesis of the inevitability of the process seems to be corroborated. For military competition among absolutistic sovereigns in Europe required them to exploit their tax sources as far as possible i.e. to behave as Leviathans. For achieving this goal tax centralization was a necessary requirement.

 

 

 

3. Reforms from the Top to the Bottom

Prussia’s mercantilist planning system became increasingly inefficient towards the end of the 18^th century vis-à-vis the more free trade oriented systems in Britain and in the Netherlands. Some reforms have been started under Frederic William II. But they were not far reaching because the old structures of governmental decision making remained unchanged and delayed progress in Prussia. However, a young generation of noblemen came into the ministries who made blueprints of a constitutional reform targeted not only at a restoration of the tax autonomy of the towns, but also at freedom of trade, general taxation and reform of public administration in schools and in the army. The head of this movement was Freiherr Karl Friedrich vom Stein. He was a minister of the public economy and the treasury. In his strive, however, for a constitutional reform he struggled before the interests unified in the King’s cabinet who acted as a kind of parallel government with decision power but no responsibility. K. F. vom Stein was dismissed as a minister in January 1807.

Prussia, however, involved in a war against Napoleon was in a desperate crisis in 1807 Under Frederic William III it has lost the battles of Jena and Auerstedt in 1806 and after two further defeats in East Prussia peace had to be made with Napoleon in July 1807. Prussia was at the end. It lost half of its territory and of its population, was occupied by French troups, and had to pay an enormous tribute. The military defeat was followed by a political breakdown. The Ancien Régime and its interest groups were swept away, and K. F. vom Stein was made minister again. Within a few months the reforms which seemed infeasible before, have been approved without opposition.

As far as the Prussian townships are concerned, local autonomy has been restored. The system of direct state tax intervention in the towns which inhibited, in the long run, entrepreneurial initiative and retarded economic growth has been abolished in favor of local fiscal autonomy. Townships have become responsible for financing their local affairs by own revenues. State fiscal requirements have been made independent of local tributes and were financed by general taxes. This reform is clearly inconsistent with Popitz‘ law. But one is immediately remembered of another theory: M. Olson’s work on The Rise and Decline of Nations (1982) in which he explains the downwards development and even the collapse of nations by the political influence of interest groups generating economic sclerosis. The King’s cabinet could presumably be regarded as such a change retarding institution contributing to the long run decline and eventual collapse of the Ancien Régime in Prussia. A collapse, however, according to M. Olson, also has favorable effects. The old interest group structure disappears and a new start becomes feasible.⁴ The Prussian reforms after 1807 can certainly be regarded as a further piece of evidence for M. Olson’s theory.

It has to be acknowledged, however, that the reform was not based on a general consensus in the population, as constitutional choice theory would suggest. Prussia has made "a revolution from the top to the bottom" as has been said at the time. It had no large politically active bourgeois class discussing and supporting new political ideas and proposals for a constitution as it existed in France twenty years earlier.

4. From Stein to Weimar

K. F. vom Stein’s fiscal reforms had a long lasting effect in the Prussian townships. Not only was his "Preussische Städeordnung" maintained through the whole 19^th century, it was extended to the (non-urban) local communities of Prussia and even became a model for many other German states during this century. When the state income tax was introduced in Prussia in 1873, the local communities obtained the right to levy an extra-charge on this base for their own purposes. Insofar their tax autonomy has even been enlarged. Local communities became financially responsible for a large number of public services, notably police, local market regulation, local welfare and basic and, to some extent, higher education.⁵ At the eve of World War I about 40% of the tax revenues of all three levels of government have been generated under local tax autonomy and spent under the authority of the local communities.⁶

K. F. vom Stein’s Städteordnung, however, fell after World War I. The new German constitution of Weimar has granted the legislative power on all relevant taxes exclusively to the federal government (art. 8, Weimar Constitution). The subcentral state and local governments have lost most or their tax autonomy. They became only entitled to participate in the now federal tax revenues through revenue sharing. While under the Kaiserreich the federal treasury was (partially) dependent upon state transfers, the situation was now reversed. State and local governments have been said to have become "boarders" of the federal treasury. It is not surprising therefore that J. Popitz has observed an apparently inevitable "power of attraction of the central government". J. M. Buchanan’s statement that "institutions are themselves patterns formed by individual decisions" (see above I) came too late for him.

 

5. Local Communities in the Federal Republic of Germany

After World War II a new federal constitution has been drafted. The Western Allies wanted the new Federal Republic of Germany to become a decentralized federal state and not a unitary state as under the Weimar Republic. In particular the tax system should be decentralized. The German side represented by the Parliamentary Council was, however, heavily preoccupied in the Weimar tradition and its centralistic ideas. A compromise has been found; the final decision on the federal distribution of the tax power was postponed to the fifties and left to be decided by the German parliament.⁷

A decentralized tax system has, however, not been restored. Last not least the state governments did not support it. They prefered a centralized tax system giving them the tranquility of a cartel. A quotation of G. Brennan and J. M. Buchanan’s book The Power to Tax (1980) may illustrate the point:

"...Within a constitutionally designed federal structure, we would predict that there would be constant pressures by competitive lower-level governments to secure institutional rearrangements that would moderate competitive pressures. One obvious such arrangement would be one that established a uniform tax system across all jurisdictions: this would remove one major element of the competitive government process. And the logical body to administer any such arrangement is the higher level of government." (p. 182)

As far as local communities are concerned, a return to K. F. vom Stein’s Städteordnung did not take place either. But local communities had no choice. They have not been asked whether they would prefer more fiscal autonomy, but were simply regarded as a part of the states in the Basic Law. Art. 28 para. 2 of this law gives them autonomy in local administration and art. 105 para. 6 grants them a tax power limited mainly to the local business and the local land tax, both within federally regulated limits.

One can conclude that J. Popitz was quite right in his prediction as far as postwar Germany is considered. It has been mentionned in section II that 95% of the German taxes are legislated at the federal level. Ironically the remaining 5% rest mainly with the local communities. On the expenditure side communities‘ own and imposed tasks are about 17% of all government outlays (1995). But M. Olson (1982) was also partially right. The pre-war interest group structures, notably the big cartels, have been abolished in 1945, an antitrust policy has been pursued and later on an antitrust act has been created exerting presumably a positive influence on economic growth in the 1950ies and the 1960ies. In the field of taxation traditional centralistic institutions have broken down in 1945, too. Germany was split into four occupation zones, and the federal treasury ceased to exist. But there was no antitrust act for subcentral governments. They could therefore more easily resume the old tradition of Weimar under the new constitution and leave legislative power on taxes to the central government (see Ch. B. Blankart, 1999).

1. Conclusions

In this paper I have tried to shed some light on government centralization from the perspective of local governments. Many questions remain open, and once more the perennial quote has to be added "that more research is needed". Nevertheless, the historical analysis has revealed some interesting insights.

Government centralization is certainly not a law of nature as suggested by J. Popitz. It can rather be said to depend on the surrounding constitutional order. Under oligopolistic absolutism, as considered in III.2, centralization of local taxation resorts as a quasi unavoidable necessity for a state’s survival. Under more stable, uncontested national constitutions, such as in 19^th century Prussia (III.3), local tax autonomy is more likely to persist.

Our walk through the Prussian/German history has shown that constitutions are not unchangeable. Often changes come about in deep political crises. The old system has lost its credibility, it is abandonned without opposition, but it cannot be said which alternative conception will succeed.⁸ In the case of local communities, e.g., centralists as well as decentralists may succeed. "Success" does, however, not mean that the new constitution will be unanimously approved. In all four cases of "constitutional change" which I have considered, the new order was enforced without securing a broad political consensus.