Commitment Failure within Bureaucracy: Why a Centralization Reform Backfired in Late Imperial China

Abstract

Centralized tax administration is the hallmark of the modern fiscal state. This paper evaluates a commitment problem inherent in establishing fiscal centralization: could states credibly promise to use centralized tax revenues to finance prespecified local government expenditures? We examine how a fiscal reform, intended to centralize the administration of local taxations, can backfire and result in negative fiscal and social consequences in eighteenth-century China. Using a difference-in-differences identifica- tion, we find that centralization led to a substantial increase in extralegal levies ex- tracted by the local governments from peasants, which ultimately provoked tax revolts. Drawing on archival fiscal data, we show that upper governments re-directed the spend- ing of centralized revenues from prespecified local expenditures to upper expenses. Our findings help explain why state capacity remained low throughout late Imperial China, and also reveal that centralized administration of taxation could not succeed without institutionalized arrangement solving the commitment problem between the upper and lower governments.

Keywords: Centralized tax administration, commitment problem, extralegal levies