|The Tax Collector|
However, much later, when I became interested in Roman history, I found out that a publican was originally a tax collector, from the Latin publicanus. St. Paul was once a publican, before he had his vision on the road to Damascus. But learning about Roman publicani led me to a new mystery. You see, the publicani were not civil servants of the Roman government. Rather, they were private businessmen who had bid on contracts to collect taxes for the government. They would loan money to the government (at interest), and in exchange they would receive a franchise to collect taxes in a given area. In addition, they got to keep whatever they could extract over and above what they had to pass on to Rome. The publicani really came into prominence around the first century BC, as the Roman empire expanded and great profits were to be made in the tax farming business.
This system of public finance seems a very alien practice from our modern point of view, and it is not difficult to picture the abuses to which it would have given rise. Imagine that at tax time, a privately-contracted agent of the IRS or Revenue Canada knocks on your door (perhaps with a couple of large and threatening men beside him) and demands money. He demands not only what you owe the government, but also an extra “collection fee” to pay him for his trouble. Imagine that the only upper limit to his income is what he can extract from citizens like you. Even worse, imagine that — as sometimes happened — the government mistakenly (or corruptly) lets contracts to more than one such tax collector in your area. Now you have to cough up money to two people. Of course you could always appeal your case later, but that would take a lot of time and money, and Washington or Ottawa is a long way away, especially if there is no phone or internet.
In addition, publicans would often receive payment in kind rather than coin; they might undervalue the goods they receive from you and then sell them on at a profit. Tax collection abuse by publicani was the cause of many a provincial uprising. The Roman government knew exactly what these tax farmers were up to. It was expected that these publicans would be trying to earn their commissions; after all, they weren’t acting pro bono, out of a pristine sense of civic duty. The government only intervened if a publican overreached himself and caused a local disturbance that couldn’t be ignored by the powers that be. In any case, the publican was a byword for greed, which is why he is classed among the sinners in Scripture. He was, in effect, an extortionist.
But why would a government resort to a system that seems so inefficient? After all, the government would receive an initial loan from the publican that was less than the money available to be collected in taxes, and the loan would have to be paid back with interest. Why did it not occur to the Romans (and other tax-farming societies) to have taxes collected directly by government agents rather than by profit-taking middlemen? Well, for one thing, the Romans didn’t have highly developed economic theories, so they were only dimly aware that over-extraction by publicans might curb investment and economic growth, leading to a declining tax base in the long run.
But that alone doesn’t explain it. After all, the Romans weren’t completely stupid. They knew that the tax farmers were going to make their end somehow on the deal, otherwise they wouldn’t have bid on the contracts. And whatever profits the farmers made represented potential money that in theory could have, but never would, end up in Rome’s coffers. The publicani captured value that wasn’t being captured by the state. If we assume that all parties were self-interested, we must assume that the Roman government assessed that it was not cost-effective to catch the crumbs it knew were falling from its table.
A very old but classic paper by Nobel Prize-winning economist Ronald Coase entitled “The Nature of the Firm” (Economica 4 (1937), 386-405) can perhaps shed light on why Rome chose to rely on tax-farming rather than a public, centralized system of tax collection. Coase envisioned private market firms as being faced with a choice very similar to that of the Roman government’s: whether to internalize or externalize (i.e. contract out) one’s business activities.
Let’s say I come up with a product that I would like to produce and sell. There are two ways I might do this (with a large number of ways intermediate between these two along a spectrum). On the one hand, I might internalize all my production. For example, I might purchase the machines I need to build my product (or even design and build the machines myself), purchase the land and buildings in which to put the machines, and hire employees to work directly for me on-site in my new factory. I may also buy trucks to ship my product to customers. I may even decide to own the retail outlets that will market my products exclusively. In other words, I could have an ownership stake in every aspect of the process of production and marketing. This pure-type of internalized production is very rare: many businesses will, for example, rent rather than own their production space, which is a kind of contracting out. As I said, there is a spectrum of possibilities.
At the other end of the spectrum, I may decide to contract out just about all of these processes to other parties to do on my behalf. For example, I might pay someone else with machines and factory space to produce the goods for me, with workers to be hired by them. I may rent trucks rather than own them, or simply hire a trucking company to ship goods for me, thereby not having to hire drivers either. I may be the only person directly employed by my firm. Again, this is an imaginary pure-type: unless it were a very simple and small business (e.g. selling homemade pet rocks) it’s hard to imagine a scenario where I could externalize literally the entire process. But in theory at least, much of it could be.
The point is, neither internalized nor externalized production is a priori more natural than the other. So instead of being surprised by the choice of the Romans to externalize much of their public finance, we should rather ask why they chose that route rather than a more internalized bureaucracy.
According to Coase, if the market were perfectly efficient there would never be such a thing as a firm, because in an efficient market it would always be easier to contract out. However, the market is never perfectly efficient. There are always transaction costs to bargaining, costs such as time spent in procurement, in seeking and communicating information, in bargaining, in enforcement of contracts, etc. There are also risks, that other parties won’t perform their end of a contract, or will make mistakes, or will divulge trade secrets. Many of these transaction costs can be avoided or minimized by internalizing them within a firm. It then becomes easier, for example, to monitor workers, to control the flow of information, or maintain standards of quality.
Generally speaking firms tend to become larger — more of their production relationships are “contracted in” — when such contracting in will lower transaction costs and/or stabilize them, or when doing so will reduce the likelihood of production mistakes, or will lower the cost or raise the supply of factors of production.
However, there are limits to the process, and it can move in the other direction, towards greater contracting out. This might happen, for example, where overhead costs increase, or where a firm becomes too big or its geographical area of operations too widespread for effective oversight or decision-making, leading to mistakes and poor resource allocation.
Returning to the Roman situation, in the Republic and early Imperial periods, tax collection and other services were contracted out to publicani. It may simply be that in early times, the Romans were culturally averse to centralized government. By later standards the early Romans had a relatively weak state. Even firefighting was privately run, and there wasn’t even a public prosecutor. Later, there was an increased movement towards internalization, with many tasks that were once performed by government contractors being performed by a growing imperial bureaucracy. With regard to tax collection, perhaps part of this process was driven by the government’s inability to effectively control the “entrepreneurial” methods of the publicani. The mismanagement of the latter would have added significant costs to the government in the form of military resources deployed to quell provincial tax revolts. As expensive as the imperial bureaucracy was, it may have become (for a time at least) more cost effective than the system of publicani, especially at first, when the profits accruing to the publicani began to accrue to the government instead.
In our time, contracting out rather than in seems to be the general trend in both the public and private sectors. For example, my city has started to contract out its garbage collection. And in 2006 the IRS started contracting out its taxpayer debt collection to private debt collection services — the new publicani of our age. Presumably, with the salaries and benefits of government employees increasing faster than those in the private sector, a point is reached where contracting out results in significant savings for government agencies like the IRS. If history is any lesson, perhaps we can expect stories of tax collection harassment and abuse to become more prominent?
As a side note, Ron Paul has announced that he will seek the presidency in 2012. Since he is on record as advocating the abolition of the IRS altogether, perhaps under his administration the government of the United States would completely revert to a tax farming system. Vanitas vanitatum, there truly is no new thing under the sun.