In the previous chapter, I documented the emergence of monopoly brokerage in the loans-for-debts market. Sovereign promises to repay loans became harder to revise or erode, as they became parliamentary and brokered. Such promises also became more valuable, as loan prospectuses increasingly limited executive discretion over the “when” and “how much” of repayment.
In this chapter, I examine the consequences of these reforms, which should have substantially improved the state's expected reversionary repayment. Section 1 considers the volume, variety, and efficiency of trade. Section 2 considers why England lagged behind its continental rivals in the development of long-term debt. Sections 3–6 turn to the evidence on interest rates. Finally, Section 7 reinterprets England's post-revolutionary debt crises, arguing they had little to do with investors’ worries that the state would not perform its promises, and much to do with the quality of those promises.
The Volume, Variety, and Efficiency of the Loans-for-Debts Trade
How did the emergence of monopoly brokerage in the loans-for-debts market affect the volume, variety, and efficiency of trade? Consider each in turn.
England's long-term funded debt stood at zero from 1600–1693, and then increased to £1,200,000 in 1695, £4,100,000 in 1705, and £29,600,000 in 1715 (see Figure 6.1). The structural break in the data is clear; I reconsider the reasons for it later in this chapter.
Short-term debt exhibited no trend from the mid-1630s to 1688, totaling about £1,000,000 (North and Weingast 1989, p. 822). By Sussman and Yafeh's (2006, p. 922) figures, such debt then increased roughly fivefold by 1695 and was five to ten times the pre-Revolution mean until 1715, declining slightly thereafter.
The variety of products in the debt market increased, too. In addition to introducing England's first long-term funded debt, the post-revolutionary generation experimented with a range of debt and debt securitization schemes much wider than had ever been attempted before (cf. Dickson 1967; Quinn 2008).
The efficiency of the debt market was reflected in the transactions costs involved in arranging sovereign loans. Earlier in the seventeenth century, most loans were connected to the sale of tax farms by the Crown (Brewer 1988, pp. 92–93). Farmers were willing to loan to the Crown because they themselves would collect the tax revenues that would repay them. The monarch would never lay hands on the funds and thus never be tempted to renege.
In Chapters 2–7, I argued that England's constitution underwent crucial reforms after the Glorious Revolution enhancing the credibility of several kinds of sovereign promise. In this chapter, I first summarize what the “crucial reforms” were. My account differs from North and Weingast's (1989) and Acemoglu and Robinson's (2012), as I explain by reference to a weakest-link theory of executive constraint.
This chapter also summarizes the consequences of constraining the executive. For each kind of sovereign promise, I review when parliamentary monopolies emerged, when monopoly brokers appeared, and when sales boomed. In each case, I attribute market expansion to the creation of monopoly brokerage in the respective markets, and explain why alternative theories of sovereign credibility fail to provide a persuasive account of market expansion.
I then reconsider the role of preferences in sustaining sovereign credibility. I argue that, once Parliament had a monopoly in a given area of law, the tactics promise holders used to secure performance shifted. Promise holders could abandon their efforts to extract performance from a Machiavellian state, in favor of optimizing the state's reversionary performance. This shift in strategy (and the state's anticipation of it) meant inter alia that all sovereign promises to deliver private goods became transferable. Transferability in turn led to the emergence of brokers and secondary markets, both of which played key roles in assuring that preferences were structurally biased toward performance. Thus, state promises became simultaneously more liquid and more reliable.
I close the chapter with some preliminary comments on the exportation of English parliamentarism to other countries. Many countries have sought to achieve Britain's outcomes – in particular, its military and economic success – by imitating its constitutional design. Only a few have succeeded and it is important to consider why.
What Happened Constitutionally?
When scholars summarize the Revolution's reforms, they stress either parliamentary supremacy or executive constraints. Here are three typical examples:
• “First and foremost, the Revolution initiated the era of parliamentary ‘supremacy’” (North and Weingast 1989, p. 816).
• “The Glorious Revolution limited the power of the king and the executive, and relocated to Parliament the power to determine economic institutions” (Acemoglu and Robinson 2012, p. 102).
• “[T]he Glorious Revolution … consolidated parliamentary ascendancy, limited royal prerogatives and secured private property” (Allen 2009, p. 5).
“He who … reduces the budget to such a point that the whole business of government comes to an end, is only fit for a madhouse.” – King Wilhelm I of Prussia, 1863 (quoted in Bismarck 1899, p. 336).
The Glorious Revolution is perhaps the single most important seedbed of Western constitutionalism. As other European nations pondered Great Britain's military and economic successes, they adopted features of what they took the Revolution settlement to be. This chapter investigates the earliest adopters of English parliamentarism – the major states of west and central Europe in the late eighteenth and nineteenth centuries – focusing on how they sought to control public expenditures.
The first step toward imitating English fiscal practices was to require that national budgets – plans or promises of expenditure to be made in the coming year – be annually approved by Parliament. Yet, annual statutory budgets were not enough. Much depended on what happened if MPs refused their support – or on what I call the budgetary reversion. The English made sure that (a) the executive's legal authority to collect revenues automatically lapsed or (b) the executive's legal authority to spend public revenues automatically lapsed or (c) both. Thus, a budget deal had to be done or parts of the government – including the military – would be forced to “shut down.”
As I will show, not all nineteenth-century imitators of Britain's constitution mandated shutdown reversions. If no agreement could be reached with Parliament, some allowed the executive to carry on with the previous year's budget, while others allowed the executive simply to promulgate the budget by decree. Both of these alternative budgetary reversions avoided the madhouse situation King Wilhelm I decried, but in the process they substantially undercut Parliament's bargaining leverage. To explore how annual budgets coupled with differing budgetary reversions affected state revenues, I rely on the data assembled by Dincecco (2011; Dincecco, Federico, and Vindigni 2011).
The English Budget
As noted in Chapter 2, English MPs used two basic methods to punish the Crown should it spend appropriated revenues contrary to statutory intent. The earliest method was to ensure that the Crown's legal authority to collect certain taxes lapsed after a certain date. Thus, if the Crown misappropriated revenues, MPs could retaliate simply by allowing revenues to lapse.
How did England transform from a minor regional power into a global hegemon over the long eighteenth century (1689–1815)? Why, over roughly the same period, did it become the world's first industrial nation?
A powerful line of argument holds that the reform of England's political institutions after 1689 laid the ground for its later military and economic success. Yet, many prominent economic and political historians have argued that the facts just do not support the institutionalist theory. The stakes in this debate are high because institutionalist ideas have been deployed to explain not only England's rise but also the great military and economic divergence between Europe and the rest of the world.
The first part of this book reconsiders England's rise. My account of what changed constitutionally differs from both previous institutionalists and their critics. I stress, for example, a reengineering of the budgetary reversion – to establish what I call rule-of-law budgets – as the root reform. Relatedly, my account of the consequences of constitutional reform differs. For example, I view the enormous increase in per capita tax extraction as the most important single consequence of the Revolution's reforms, with the revolution in debt being a side effect. Understanding the historical origins of the British state's great taxing power, and why and how it could be made compatible with political liberty and economic growth, are central issues that this book addresses.
The second part of this book investigates the spread of British constitutional ideas about budgeting to the rest of the world. Theoretically, I argue that states could attain “modern” levels of revenue extraction only if they addressed a central credibility problem afflicting all ancien régime states: because rulers were legally entitled to spend any revenues they might receive however they saw fit, they could not credibly commit to spend those revenues in particular ways. Empirically, I provide various kinds of evidence that tax receipts per capita reached modern levels only after reforms bolstering the credibility of the executive's expenditure promises. At the same time, I show that many rulers have reengineered the budgetary reversion in their own favor, with fundamental political and economic consequences.
By the 1340s and 1350s, Parliament had asserted and largely established an exclusive right to grant new taxes (Waugh 1991, p. 203; Sacks 1994, p. 19; Payling 2009, p. 76). Thereafter, until the Revolution, taxation was supposed to proceed as follows. The monarch would ask for new taxes and, in exchange, offer some general remarks about the purposes to which the new revenues would be put. Those purposes were typically war-related and invoked the doctrine of necessity (Sacks 1994, pp. 17–18). In my lingo, the monarch offered to “sell” Parliament some platforms – sovereign promises about expenditure – in exchange for taxes. If MPs liked what they heard, they could “buy” the platform by granting taxes.
Virtually all platforms before the Revolution were royal; very few were embedded in statutes. Thus, the monarch could change his or her mind about the proper use of the revenues at will. Even if the monarch did not abandon his/her original promise, however, Parliament typically had little idea whether it was being honored, as MPs lacked even the most basic accounts of the public revenues and expenditures.
The low credibility of royal platforms led, especially during the Stuart years, to the Commons denying supply. Why buy a platform whose performance one cannot verify and can be changed at royal whim? The Crown, anticipating that its dodgy pledges would elicit no new taxes, did not summon Parliament – and sought to find revenues without it.
There were only two logical ways out of the fiscal impasse facing Stuart England. One, the Stuarts’ preferred solution, was royal absolutism (Pincus 2009). The other required making sovereign promises about expenditure more credible, so that bargains between the tax-granting Commons and the platform-peddling Crown would no longer fail so often.
After the Revolution, Parliament simultaneously defended against absolutism and reengineered the credibility of platforms. To make platforms harder to change legally, Parliament embedded them in statutes, in what were called appropriations. To bolster its ability to verify that promises were kept, Parliament required executive officials to provide vastly more information about the public finances. To enhance its ability to punish ministers for violating its instructions, Parliament forced ministerial responsibility on a reluctant monarch.
Inextricably connected to the rapidly evolving appropriations-audit- punishment system was the emergence of ministers as the monopoly brokers of the taxes-for-platforms market.
After the first wave of English parliamentarism had washed over nineteenth-century Europe, subsequent waves – mediated mostly by colonization – swept the globe. The vast bulk of these late adopters’ constitutions mandated an annual statutory budget. Yet, the resulting budgets have often been little more than executive promises. In other words, the first step England took to limit the executive has not been taken by many of its inheritors and imitators worldwide.
To avoid the trammels of legislative bargaining, executives have pursued the same three strategies Stuart monarchs used – but with more success. First, some rulers have reached power by militarily crushing their political oppositions. Such rulers, when they issue annual budgets, do not subject them to meaningful legislative approval. Second, some rulers have established one-party states in which the legislature is no longer independent. Legislative approval in these cases is a foregone conclusion. Third, some rulers have defanged their legislatures, reducing their de jure control over state expenditures.
Because violence and one-partyism are both well-recognized routes to autocracy, I focus here on the last and least obvious tactic of executive control: removing the legislature's de jure fiscal rights. Although some constitutions, such as Saudi Arabia's, confer no power on the legislature at all, most confer an incomplete set of rights, leaving gaps the executive can exploit. In particular, many constitutions have created executive decree powers at least as strong as those conferred by Denmark's Revised Constitution of 1866, while others have mandated budgetary reversions no less favorable to the executive than Spain's Constitution of 1876. Even when these provisions have not been actively exploited, their mere existence has undermined the legislature's bargaining position vis-à-vis the executive and, accordingly, lessened the extent to which national budgets are parliamentary promises.
To elaborate these points, I proceed as follows. Sections 11.1 and 11.2 discuss what I call executive-favoring budgetary reversions (or EFRs). Section 11.3 shows that the world's constitutions, over the period 1875–2005, have increasingly opted for EFRs. Sections 11.4– 11.6 examine some consequences of EFRs. In particular, I explore how they affect tax revenues in a cross-section of sixty-seven democracies; and the duration of democracies over the period 1875–2005.
In this chapter, I describe the emergence of Parliament's monopoly over the issuance of sovereign debt, the Bank of England's monopoly over the sale of such debt, and effective limits on executive discretion over repayment. In other words, I describe the emergence of monopoly brokerage in the loans-for-debts market.
Establishing a parliamentary monopoly over debt issuance meant that, whereas the vast bulk of sovereign promises to repay loans prior to the Revolution had been merely royal, afterward they quickly became almost wholly parliamentary. The process was completed by the development of ministerial responsibility, after which the prerogative right to borrow could no longer be exercised by the Crown unilaterally.
Establishing the Bank of England's monopoly took some time, but the first important steps were taken over the period 1694–1708. As its monopoly strengthened, I argue that the Bank should have become reliably more hostile to sovereign default than the Crown.
Limiting executive discretion over repayment involved securing seniority and proper funding for all debts. As seniority and funding improved, a sea change occurred in how English debts were repaid. A very substantial fraction of debts before the Revolution were paid out of discretionary funds; debt-holders had only junior claims or senior claims on inadequate funds. By 1715, the vast bulk of payments flowed out of earmarked accounts; debt-holders held senior claims on more ample funds.
Parliament's Monopoly over Debt
In this section, I consider how Parliament came to control the issuance of all debt. To begin, it is important to note that English monarchs had long borrowed on their own initiative, and had long been free to revise the terms of such loans. In other words, sovereign promises to repay loans were, for most of English history, merely royal.
The Commons’ Dislike of Royal Borrowing
The Commons disliked unilateral royal borrowing for two main reasons. First, as Jones observed, “Loans from bankers, secured on taxes already voted or on the permanent revenue, could enable the crown to evade the restrictions imposed by appropriation” (1994, p. 71). In other words, if the Commons wished to control expenditure, it had to control borrowing.
Sovereign debts are a subspecies of the sovereign platforms studied in Chapters 2 and 3. They are promises to use future revenues to repay immediate loans.
What price will investors pay for a sovereign debt? At issuance, investors will consider two distinct reasons that the government-at-maturity might repay them. First, the government may prefer to repay the debt, all things considered. Second, the original promise of repayment may remain legally in force and constrain the government's actions.
Whether the original promise of repayment remains in force depends on the number and diversity of veto players who must approve its revision. Royal debts, for example, can be revised at will by the monarch. Holders of such debts should thus expect only a Machiavellian repayment – one hinging on their influence at court and their ability to make trouble should they not be repaid.
Even if the original terms of a debt remain legally binding, however, the government-at-maturity may not be significantly constrained. Some debts confer senior claims on ample revenue streams; these leave the government no discretion. Other debts confer junior or underfunded claims; these leave the government substantial discretion over whether and how to repay them.
Debt seniority and funding jointly determine creditors’ attitudes toward “constitutional commitment.” While holders of senior and well-funded debt crave better commitment, holders of junior or underfunded debt can only be hurt by increasing the number of veto players in the legislative process. Thus, the idea – widespread since North and Weingast (1989) – that improving constitutional commitment can only improve the credibility of debt repayment is mistaken.
I shall argue that England, in the first generation after the Revolution, issued many debt promises of high credibility but low face value. The high interest rates these early debts had to offer, and the discounts they suffered at sale, were not evidence that investors doubted the state would perform as promised. Rather, they were evidence of junior or poorly funded – and hence low-value – promises.
Those readers who find the argument sketched earlier straightforward may wish to skip to the next chapter. For those who seek a more careful exposition, this chapter provides a general model of the value of sovereign debts, shows that previous analyses have focused on special cases, and begins to discuss when and why English debt became more valuable.
In the previous chapter, I documented four important changes in how the taxes-for-platforms trade between Crown and Commons operated after the Glorious Revolution. First, before the Revolution, virtually all platforms had been royal (embedded in royal documents); afterward, they were almost exclusively parliamentary (embedded in the appropriations clauses of statutes). Second, before the Revolution, MPs’ threats to deny supplies typically affected small amounts relative to the Crown's permanent income; afterward, thanks to vigorous exploitation of the “for longer time” clause of the Bill of Rights, the amounts involved were much larger. Third, before the Revolution, the Commons had no effective means to hold the Crown's advisors accountable for their advice; afterward, ministerial responsibility developed into a credible system. Fourth, before the Revolution, the Crown might have chosen any number of avenues through which to approach the Commons; afterward, there was only one constitutional route – through the ministers – who emerged as the monopoly brokers of the taxes-for-platforms market.
In this chapter, I consider the consequences of the reforms just noted. The most important consequence was that a lot more taxes were granted, once MPs had more credible assurances about how the resulting revenues would be spent. More broadly, the entire market – in which platform-selling Crown met tax-granting Commons – worked much more smoothly.
However, in those parts of the British budget that remained purely royal, there was no revenue growth. In other words, state revenues grew where, and only where, platforms became more credible.
Another vital consequence of Britain's budgeting revolution was the regulation of the fiscal common pool. I elaborate this accomplishment by comparing Great Britain's experience after the Revolution with that of France's Third Republic (a case to which I return in Chapter 10).
The most direct consequences of England's budgetary revolution were that the volume, variety, and efficiency of trade surged. Let's consider each point in turn.
The Volume of Trade
One can estimate the volume of the taxes-for-platforms trade by the aggregate taxes granted. During the Restoration, notwithstanding the many improvements in tax collection (Roseveare 1973; Brewer 1988), tax receipts showed a shallow decline from 1665 to 1685, averaging £1.53 million. After the Glorious Revolution, tax receipts more than doubled the Restoration average by 1695 and tripled it by 1700 (see Figure 3.1). By 1815, taxes had risen sixteen-fold.
Are political institutions fundamental causes of economic growth, as a number of political economists have prominently argued (e.g., North, Wallis, and Weingast 2009; Acemoglu and Robinson 2012)? Are they fundamental causes of military prowess, as in the “strong democrats” thesis (Lake 1992)? Are they fundamental causes of financial credibility, so that democracies have a “borrowing advantage” (Schultz and Weingast 2003; Beaulieu, Cox, and Saiegh 2012)?
These general propositions derive, in good part, from particular understandings of England's Glorious Revolution. Indeed, one can rephrase each question in terms of that case. Did the Glorious spark the Industrial Revolution? Did the Revolution lead to England's many battlefield successes? Did the Revolution underpin England's financial revolution?
I have addressed the England-specific questions in Part I. In this conclusion, I focus on three broader questions. First, what are good political institutions? Second, in what sense are good political institutions fundamental causes of a state's ability to raise revenues or the health of its economy? Third, if good political institutions increase state revenue and economic performance, why haven't they been more widely imitated?
What Are Good Political Institutions?
In the view of Enlightenment theorists, good political institutions imposed “checks and balances.” As James Madison wrote in Federalist #51, the trick was to “so [contrive] the interior structure of the government as that its several constituent parts may, by their mutual relations, be the means of keeping each other in their proper places.” A bit more precisely, one must give “to those who administer each department [of government] the necessary constitutional means and personal motives to resist encroachments of the others” (italics added).
The “constitutional means” to which Madison referred have typically been construed as vetoes. Thus, we arrive at a classic formula for constraining the executive – namely, requiring that other constitutional veto players approve its decisions. I would, however, highlight three points that complicate the project of checking the executive by creating veto players.
First, as many have pointed out, if the executive appoints the other veto players, then it is unlikely they will use their powers to prevent tyrannical acts by the executive. Thus, formal veto powers must always be combined with sturdy reasons to expect that legislators and judges will be independent of the executive.
North has argued that Britain's Industrial Revolution was explained by “a combination of better-specified and enforced property rights and increasingly efficient and expanding markets” (1981, p. 166). If property rights became significantly more secure due to the Glorious Revolution, then a strong link is suggested between the changes in England's politics after 1688 and the changes in Britain's economy after 1780. While North and Weingast (1989, p. 831) were circumspect in drawing this link, others have asserted it more emphatically. For example, Olson observes that “individual rights to property and contract enforcement were probably more secure in Britain after 1689 than anywhere else, and it was in Britain, not very long after the Glorious Revolution, that the Industrial Revolution began” (1993, p. 574). More recently, Acemoglu and Robinson (2012) entitle one of their chapters “The turning point: How a political revolution in 1688 changed institutions in England and led the way to the Industrial Revolution.”
Sceptics, however, have questioned whether England's political reforms led to Britain's economic success. Mokyr observes that “the precise connection between the events of the Glorious Revolution and the Industrial Revolution that followed more than half a century later remains murky” (2008, p. 27). Allen wryly notes that “it was a long stretch from the excise tax on beer … to Watt's invention of the separate condenser” (2009, p. 5). Jones points out that “a link has not been established between supposedly greater security of property under William III and industrialization a century later” (2013, p. 328). Findlay and O'Rourke doubt that “British success can really be attributed to superior institutions, put in place by the Glorious Revolution” (2007, p. 349), while Rodger remarks that “it seems less and less plausible that parliamentary government could have been the essential factor in Britain's economic success” (2010, p. 9).
In this chapter, I consider three specific causal mechanisms that might have connected the two revolutions. My aim is to show these paths make good sense and are supported by prima facie evidence, rather than to attempt conclusive tests.
The first path connects the Glorious to the Transportation Revolution, per Bogart (2011), and then connects the Transportation to the Industrial Revolution, per Szostak (1991).
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