The problem of tax evasion is at the core of much of the budgetary problems confronting Europe today. There is scarcely a German voter who hasn’t heard that if the Greeks and/or the Italians just paid the taxes they owe, these countries’ budget problems would vanish. Indeed, the cultural stereotyping of southern Europeans by many of their putatively more “frugal” (?) northern European neighbors has substantially exacerbated discussions concerning the Euro and the EU itself. For example, Alan Greenspan, former head of the US Federal Reserve, reflected many people’s views of the crisis in Europe and America when he argued that “The euro zone is confronted with a crisis of not just labor cost and prices–but culture.”
But is the tax-paying behavior of Greece, Italy, Spain, etc. as compared to Sweden, Britain or Germany really rooted in deep cultural differences between northern and southern Europeans, or is behavior the result of reasonable people reacting to differences in the institutions and public policies for which they are asked to pay? In other words, are Italians (and Greeks, etc.) less “willing to pay” than, for example, British taxpayers because there is something in their cultural norms that makes them less prone to cooperate with others, or less willing to contribute to the public good? Or, could it be that Italians avoid their taxes more than Brits or Swedes because they feel their governments waste too much of their money?
The problem, analytically, is that culture and institutions are almost certainly interdependent, and therefore notoriously difficult to disentangle. In “Willing to Pay?” Tax Compliance in Britain and Italy, Nan Zhang, Giulia Andrighetto, Stefania Ottone, Ferruccio Ponzano, and Sven Steinmo exploit one of the largest cross-national tax compliance experiments (of which we know) to address this question. As the title suggests, the paper compares individual taxpayer behavior in two countries with very different cultures, but relatively similar fiscal institutions and welfare states. Yet, although Britain and Italy share comparable fiscal institutions, tax evasion varies widely between the countries.
By utilizing an experimental setting, the authors are able to hold the institutional environment constant, thereby isolating cultural variation. The study thus pits the culturalist against the institutionalist explanations for tax compliance. In particular, the paper analyzes the specific question as to whether southern Europeans (in this case Italians) would behave differently than northern Europeans (in this case the British) when faced with exactly the same fiscal institutions.
The paper’s findings call the implications of culturalist arguments into doubt. When faced with exactly the same choices, Italian participants were even more likely to cooperate and behave honestly than British participants. These findings surprised us as they do most readers.
The paper we highlight comes out of our larger “Willing to Pay” Project, which engages a multi-national team of researchers in conducting tax compliance experiments in the United States, United Kingdom, Sweden, Italy and Romania. The present paper uses observations from six locations in Italy and the UK collected from nationals of those countries. In total, the data comprise 531 participants across a wide variety of academic disciplines. Our project took great care to assure that all subject pools were demographically very similar and that the selection mechanisms were nearly identical, providing reassurance that the external treatment was the national context itself.
In our experiments, participants are asked to perform a series of clerical tasks in which they copied rows of text from a spreadsheet onto a computer. For each row copied correctly, individuals earned “money” denominated in an artificial currency that we created for these experiments. Next, participants were asked to declare their income for tax purposes under a variety of institutional scenarios (i.e. different tax rates and redistribution rules).
Importantly, participants were free to report whatever amount of income they pleased, although there was a 5% chance of being audited. If they under-reported and were caught, they had to pay a fine equal to twice the amount of taxes due. In the end, the dependent variable – the compliance rate – was measured as total income reported divided by the total income earned.
Based on real world data and preconceived notions of cultural characteristics, we expected British participants to comply more than Italians. We couldn’t have been more wrong. Across the board, in every round, Italians complied more.
Average Compliance, all Rounds
To dig a bit deeper, the authors ran a series of statistical tests of cross-country differences in the proportion of participants who completely evaded (claimed 0% of income in each round), completely complied (claimed 100% of income in each round), and partially complied (claimed somewhere in between 0% and 100%).Interestingly, the paper finds that Italians are more likely to be completely honest, the British are more likely to under-report, and when they do under-report, they are more likely to cheat “all the way” (i.e. by declaring absolutely 0 income). What this all adds up to is that Italians reported approximately 13% more of their total income than Britons, and this effect is robust even after controlling for a host of individual-level characteristics.
What does this tell us about taxpayer behavior more generally? We know that southern European countries are more prone to tax evasion and poor quality of governmental institutions, whereas their neighbors to the north enjoy high quality government and high compliance. We also know that southern Europe can be characterized by its more familistic tendencies than northern European countries. However, this study demonstrates that it would be a mistake to chalk up disparities in tax behavior to cultural explanations alone.
Rather, the experimental findings suggest that, if given the exact same institutional settings, Italian citizens would comply more than the British with fiscal demands. Tax compliance then becomes a product of the institutional environment in which an individual lives, instead of a function of his or her culture. Is it not safe to assume that, due to the particular institutional hurdles an Italian resident faces everyday, she would be more likely to find ways to circumvent the state? On the other hand, northern European citizens may see their excellent quality of public services as a direct reflection of the taxes they pay. These considerations lead us to conclude that, while at first glance tax compliance seems to be mirrored by more generalized cultural stereotypes, upon deeper investigation the quality of governmental institutions stands out as the underlying driver of tax evasion or compliance.
We find these lessons encouraging. If it were indeed the case that cultural variables dominated over institutional structure, the prospects for Europe, or for indeed much of the developing world today, would be grim indeed. However, as we hope this post has illustrated, the focus on specific institutional reforms and improving what Bo Rothstein has termed the “Quality of Government” are likely to yield more significant results than the cultural blame game that too often seeps into the policy debate.
As John Kay noted in a recent article in the Financial Times (July 28, 2015) the cultural stereotyping of southern Europeans has impeded the ability of EU member states to address the current crisis. “The starting point for any solution should not be to ask who is to blame but what is likely to work.”
If you would like to join us for the panel, Sven Steinmo and Nan Zhang will be presenting the full paper on Saturday, September 5th at 8:00 clock in the Hilton, Golden Gate 6. For more information about the project, please visit our website and http://www.willingtopay.eu.