Taxes, Property Rights, and Friends with (Expected) Benefits

Assorted research

What happens to a municipality when the parents cut it off?

Maybe Boy Meets World is too old for my audience, but the episodes are all on Disney+ now, so you can watch it if you need to. In Season 7, Episode 10, Cory and Topanga are married but do not have a place to live yet. They have been crashing in their friends’ apartment, but the friends kick them out. They try to get their parents to cosign on a house with them, but the parents refuse to take that obligation. Finally they find a rundown apartment, with babies crying next door and brown water coming out of the sink. They beg Cory’s parents to let them move back in, but they refuse and tell them it’s time to grow up. Even though they wallow in the consequences of their big life choices, the episode ends with them figuring out how to fix the apartment on their own. If the parents always bailed them out, they would never have learned to stand on their own.

This reflects a trope in stories where the main character begins as a spoiled rich kid but then gets cut off. Through the story, the character then has to dig deep, find new skills, and emerges a better person in the end. But while it’s common in stories, is it a trope that also applies to states?

A lot of states/governments receive non-tax revenue. Some of it might be from owning natural resources like oil. Or it could be foreign aid. It’s a source of income that comes free, like the parent supporting their child. But what are the consequences of this support?

A new paper asks this question in Brazil. Municipalities in Brazil receive transfers from the central government. One of the main determinants of the size of the transfer is the municipality’s population, but population shifts over time. That means sometimes municipalities move up a bracket and suddenly get a larger transfer, and sometimes they move down to a lower transfer. So what happens when they move to the lower transfer?

It turns out, a lot of municipalities underinvest in collecting taxes. While there are taxes on the books, many of them are not collected. But like the rich kid who gets cut off, the municipalities realize they are short on revenue. They can cut expenditures, which could get people upset, or they can dig deep, find new skills, and emerge a better municipality. And it turns out a lot do that. They stop being lazy with tax collection and find the pennies in the couches.

This was an interesting way to investigate the question of how states develop capacity when they have sure revenue sources. I wrote a related paper on how Haiti’s dependence on trade revenues impeded its development of collecting internal taxes. In a similar story, there was a large trade revenue shortfall, which forced the Haitian government to find a way to collect more taxes. I think it would be interesting to see more research on whether drops in foreign aid have a similar effect.

Where do property rights come from?

I’ve seen a lot of work on how property rights affect investment. But there isn’t a lot of empirical work on where property rights come from.

My favorite theoretical work on the origin of property rights is Demsetz. He argues that property rights are about internalizing externalities, and that when the cost of internalization falls below the benefit, then property rights will be created. For example, when you bought a book or CD, the first-sale doctrine said that you were allowed to resell it or distribute it how you liked. That’s why we have libraries. Publishers and record labels didn’t want you to share or sell those, because that meant fewer sales for them (barring second-order effects that increase sales in the long run). But it’s too hard to police libraries and the used book market, so they didn’t have many options. Today, however, most music and a share of books are purchased digitally, and the cost of creating property rights in digital products is really low. Thus, distributors have regained property rights over the intellectual property.

One of Demsetz’s hypotheses is that communal property rights come from the difficulty of protecting fallow land. For farmland to regain its fertility, it has to remain fallow for some time. But if the land is fallow, that means the farmer must be farming another piece of land and can’t give his full attention to the fallow land. How can we protect the land? One answer is communal property rights. The whole community protects the fallow land, preventing people from stealing land that’s in recovery.

While it’s a nice theory, can it be tested?

It’s tested in a new paper. The authors take advantage of two key features of agriculture: (1) the ideal crop differs across the world and (2) each crop has a different ideal fallow length. So there are areas where the ideal crop has a longer ideal fallow length than in other regions. According to Demsetz, the areas with the longer fallow length should be more likely to develop communal property rights. And that’s what the researchers find!

I think the paper is interesting, but it did conflict with another one. There’s a well-cited paper that shows that, in Ghana, communal property rights lead to under-investment in fallowing land because land that is idle gets taken by the tribal leader and given to someone who will farm it. In fact, a fairly common finding across many contexts is that when individual rights are less secure, the farmers tend to over-farm the land because it’s a way they can protect it. So I’m seeing some tension in the theories. But I love the empirical investigation into how property rights emerge and hope to see more stuff like this.

Asking for a friend

Let’s say you want to provide an intervention that you hope produces network effects. For example, in many places in the US, when you vote you get an “I Voted” sticker. One goal of this is that other people will see you with the sticker and decide they should go vote too. That sticker didn’t just motivate your direct contact to vote, it helped others to vote too.

The question, then, is who should you target with that intervention?

If you promise the sticker to the 27 year-old dude living in his mom’s basement still playing Among Us for 18 hours a day, you might get him to vote, but he isn’t going to influence others. But if you get it to the guy who knows how Pam’s surgery went and whether Simon needs any help with his yard, you’re going to see that intervention trickle through a large network.

So how do you find the super socially connected people? One strategy is to map the community’s entire social network. Find every connection and then find the nodes with the most connections. But that’s hard and expensive. Is there a cheaper way?

Newly published research in Science says there is. They use the ‘friendship paradox.’ For those who haven’t heard of this, it’s the strange fact that your friends, on average, have more friends than you have. While this seems counterintuitive, the way to understand it is that your friends are a selected group of people. Are you more likely to be friends with the Among Us fanatic or the neighborhood social butterfly? By virtue of their connections, you will know the social butterfly, and he’s a more connected node than you are.

The study design is clever. For the intervention, they did two trials. First, the standard approach where you offer the intervention to a random set of people. But there was another group. In this one, the researchers asked the random set of people for a list of friends, then they offered the intervention to a random sample of the friends. Because of the friendship paradox, these friends are more likely to be highly connected people than the initial group of randomly selected people. And they indeed find that the intervention was more likely to spread to other people in the network when using the friends rather than using the initial sample.

I wasn’t that interested in the intervention itself, but I liked the friendship targeting. It seems like this could be used in a lot of interventions.