Introduction to public finance

Introduction

TO

PUBLIC FINANCE

DUNOYER

Nefo gorfe THE MACMILLAN COMPANY

LONDON: MACMILLAN & CO., Ltd.

All rights reserved

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Copyright, 1896, By THE MACMILLAN COMPANY.

Nortoooti $reas

J. S. Cushing & Co. — Berwick & Smith Norwood Mass. U.S.A.

Preface

This Introduction to Public Finance is intended to be an elementary text-book. It contains a simple outline of those things which are necessary to prepare the student for independent research ; a brief discussion of the leading principles that are generally accepted ; a statement of unsettled principles with the grounds for controversy; and sufficient references to easily accessible works and sources to enable the student to form some opinion for himself. The references that are given are not so much for the purpose of sustaining the author's statements, which any advanced student or teacher can easily trace to their sources, as to enable the beginner to add to his information on points that are of necessity briefly treated here.

Both the American and the English systems of taxation are badly in need of reform. Public opinion is gradually awakening to this need. Financial questions are widely discussed. There can be no doubt that the most pressing reforms of the close of the nineteenth century are tax reforms. The rapid extension of governmental functions — the invasion by the government of fields of activity that lie near to the welfare of the people — has given rise to great interest in the financial side of vi PREFACE

these activities. It is hoped that this work may be helpful in the accomplishment of these needed reforms.

The Introduction to Public Finance can be intelligently studied by any person already familiar with the general principles of Political Economy. Technical details and wearisome tables of statistics have been avoided wherever possible. Abundant references to statistical compilations are, however, given, so that such matters can be readily looked up if wanted. The countries whose financial systems have been chiefly used to illustrate principles are England, Germany, Prance, and the United States ; other countries have been drawn upon only for particularly pertinent examples. A brief but complete history of the financial practices of the four countries named has been given. The countries most extensively studied are England and the United States. Although the book has been written from the point of view of an American, the author ventures the hope that it may not prove the less useful to English students.

CARL C. PLEHN.

Berkeley, Cal., August, 1896.

Table Of Contents

INTRODUCTION

Section 1. Definition, scientific character, and relations of Public Finance. Sec 2. History of the science. Sec 3. Method and subdivisions of the subject. Sec 4. Desirability and feasibility of a single method of classification throughout the whole subject. Page 1

Part I Public Expenditure

The Nature of the State ; its Functions and their Classification

Section 1. Political science sets no definite limits to the extension of State functions. Sec 2. Public Finance finds a limit in the revenue-yielding strength of the State. Sec 3. Public expenditure in early times. Sec 4. Public expenditure in Greece and Rome. Sec 5. Feudal expenditure and the beginnings of modern. Sec 6. Classification of expenditure. Page 17

Expenditure exclusively for the Common Benefit

Section 1. Expenditure for general administration. Sec 2. Expenditure for the legislative department. Sec 3. Expenditure for public buildings. Sec 4. Expenditure for defence. Sec 5. Expenditure for means of transportation. Sec 6. Expenditure for education. Sec 7. Assistance of private industry and commerce. Page 33

vii viii CONTENTS

Expenditure for the Benefit of Individuals

Section 1. Expenditure for charities. Sec. 2. Pensions. Sec. 3. Bounties and "protection." Sec. 4. Expenditure for the administration of justice. Sec. 5. "Betterment" of property. Sec. 6. Expenditure in public industries. Page 53

Part II Public Revenues

The Character and Classification of Public Revenues

Section 1. Early forms of revenue. Sec. 2. The growth of constitutionalism results in uniformity of the revenue systems of the different countries. Sec. 3. Different States find the same justification of taxation. Sec. 4. Compulsion is universal. Sec. 5. Classification of revenues, definitions of fees, taxes, and prices. Secs. 6 and 7. Further considerations on classification. Page 69

The Classification of Taxes and Pees; Definitions

Section 1. The measure of taxation distinguished from the justification ; benefit theory and faculty theory. Sec. 2. Difficulties in the classification of taxes. Sec. 3. Direct and indirect taxes. Sec. 4. Taxes on persons, property, and income. Sec. 5. Other classifications of taxes. Sec. 6. Classification of fees. Sec. 7. Economic revenues. Sec. 8. Definitions of various terms used. Page 83

Section 1. All nations use many different taxes; no single tax feasible. Sec. 2. What, in the opinion of nations, constitutes

CONTENTS ix

the ideal of correct or just taxation. The benefit theory • the legal theory in the United States. Sec. 3. The faculty theory ; what constitutes faculty. Sec 4. Other theories and progression. Page 105

CHAPTER IV

The Development of Taxation before the Industrial

Revolution

Section 1. Feudal dues commuted, and voluntary contributions become taxes. Sec 2. History of taxation in France. Sec 3. History of Crown taxation in England. Sec 4. History of local taxation in England. Sec 5. Colonial taxation in America. Page 123

CHAPTER V

The Development of Tax Systems since the Industrial

Revolution

Section 1. The effect of the industrial and political revolution. Sec 2. General outline. Sec 3. Development of taxation in Prussia. Sec 4. In France. Sec 5. In England. Sec 6. In America. Page 144

CHAPTER VI

Excises

Section 1. Comparison of excises and customs ; and direct consumption taxes. Sec 2. Purposes and principles of the excises. Sec 3. Method of assessment. Sec 4. Typical excises. Sec 5. Proper field for excises. Page 169

CHAPTER VII

Customs Duties

Sections 1 and 2. Customs duties defined. Secs. 3 and 4. The purposes of customs duties, both fiscal and political. Protective and revenue tariffs. Sec 5. The protective principle widely applied. Sec 6. The tax character of protective duties. Sec 7. Customs duties as a source of revenue. Sec 8. History of customs duties in England. Sec 9. The German customs union and the Imperial tariffs. Sec 10. History of the French tariff. Sec 11. Tariff history of the United States. Page 182

X CONTENTS

CHAPTER VIII

Part 1. The General Property Tax

Section 1. Theory of general property tax and the objections to it based upon the experience of the United States. Sec. 2. Scientific judgment of the general property tax. Page 208

Part 2. Special Property Taxes

Sec 3. The land tax. Sec 4. Building tax. Sec 5. Taxation of capital. Sec 6. Inheritance tax. Page 219

CHAPTER IX

Personal Taxes

Section 1. Poll tax. Sec 2. Theory of the income tax. Sec 3. Place of the income tax in the tax system. Sec. 4. Prussia income tax. Sec 5. The British property and income tax. Sec 6. Income taxes in the United States. Page 231

CHAPTER X

The Incidence of Taxation

Section 1. Incidence depends upon the system ; meaning of shifting and incidence. Sec 2. Shifting may or may not defeat the purpose of the tax. Sec 3. Shifting adds to the burden of taxation. Sec 4. Shifting cannot take place when taxes are universal and equal. Sec 5. Incidence of excises and customs. Sec 6. Incidence of the general property tax. Sec 7. Incidence of special property taxes and of personal taxes. Page 248

CHAPTER IX

Fees and Industrial Earnings

Section 1. Connection between fees and industrial earnings ; development of fees into taxes. Sec 2. Judicial and legal fees. Sec 3. Administrative fees. Sec 4. Special assessments. Sec 5. Postal fees. Sec 6. Revenues from public property. Sec 7. Revenue from public industries. Page 259

CONTENTS xi

PAET III

PUBLIC INDEBTEDNESS

The Growth and Nature of Public Credit

Section 1. Size of public debts. Secs. 2 and 3. The nature of credit. Sec. 4. Wherein public credit differs from private. Sec. 5. Economic effects of public borrowing. Sec. 6. Foreign and domestic loans. Page 278

Forms of Public Debts

Section 1. Funded and floating debts. Sec. 2. Forced and contractual loans. Sec. 3. Classification of debts. Sec. 4. "Perpetual " bonds and redeemable bonds. Sec. 5. Terminable annuities. Sec. 6. Lottery loans. Sec. 7. The rate of interest. Sec. 8. Debts of the treasury. Sec. 9. Productive loans. Page 293

Negotiation, Payment of Interest, Conversion, and Redemption of Debts

Section 1. Two chief methods of negotiating public loans. Sec. 2. Place of payment of interest, and other minor considerations. Sec. 3. Conversion of the debt. Sec. 4. Debt payment and the sinking fund in England. Sec. 5. Debt payment and the sinking fund in America. Sec. 6. Summary. Page 310 xii CONTENTS

Part IV Financial Administration Chaptee I

The Budget ; Administration of Expenditure ; Control and

Audit

Section 1. Importance of sound methods of administration. Sec. 2. History of fiscal administration. Sec. 3. The budget in England, and appropriations in the United States. Sec. 4. English control and audit. Sec. 5. Control and audit in the United States. Page 325

Collection of the Revenues ; Custody of the Funds ; and the Public Accounts

Section 1. Early methods of collecting revenues. Sec. 2. Collection of customs duties and excises. Sec. 3. Assessment of direct taxes, "declaration," and equalisation. Sec. 4. Convenience of the contributor must be consulted in the collection of taxes. Sec. 5. Transfer of the public funds and custody of the public moneys. Sec. 6. Public accounts in England and America. Sec. 7. "Funds of account." Page 340

Brief Bibliography for Advanced Students. Page 354

Index. Page 356

INTRODUCTION TO PUBLIC FINANCE

INTRODUCTION

Section 1. Public Finance deals with the way in which the State acquires and expends its means of subsistence. It stands in somewhat the same relation to the State that Political Economy stands to the individual. If Economics may be defined as the science which deals with the activity of the practical reason in acquiring and applying those things that are provided in comparatively limited quantities, for the satisfaction of the external and temporal wants of man, then, adapting our definition to somewhat the same terminology, Public Finance may be defined as the science which deals with the activity of the statesman in obtaining and applying the material means necessary for fulfilling the proper functions of the State.

Public Finance is properly called a science, because, (1) it deals with a definite and D ,

' v y Properly

limited field of human knowledge ; (2) called a stilt admits of an orderly arrangement of its facts and principles, and contains many

B 1 laws of general progress belonging exclusively to its own field; (3) it admits of the application of scientific methods of investigation ; (4) it foresees as well as explains a certain class of phenomena; (5) it is generally, if not universally, so regarded. A dependent It is, however, a secondary or dependent science. science. It is closely related to two

other sciences, upon which it properly depends. These are Political Economy and Political Science. While, on the one hand, it draws largely upon the conclusions of these two sciences for its hypotheses, yet on the other it contributes much to them. Most of the prominent German writers on the subject regard Public Finance as a corporate part of Political Economy. It is properly so regarded, because the activities of the State that belong to this field are of such a nature as to consume wealth, produce wealth, and to interfere with the distribution of wealth. From Political Science we shall have to borrow many conclusions as to the nature of the State, and as to the functions of government. A determination of what the proper functions of the State may be is no part of our subject, but belongs wholly to Political Science. 1 In general it has been found best to assume that the functions now actually performed by the States are proper, provided they are not clearly

1 For discussions of that part of the subject the reader is referred to Bluntschli's Theory of the State, Wilson's State, Hoffman's Sphere of the State, and Crane and Moses' Politics.

contrary to some generally accepted principles of Political Science. We are thns relieved of the bnrden, assumed by many writers on trie subject, of attacking or defending the actions of different governments in matters as to the propriety of which there is some question : for example, the propriety of the continuance or assumption of State ownership of railroads, or the State monopoly of tobacco. All such matters will be treated purely from the fiscal point of view.

Information concerning the facts with which the science of Public Finance deals can, in most instances, be definitely ascertained, and „,,

' J The Art of

the conclusions drawn have often a Public Fisharpness and distinctness lacking in nance - many other parts of Political Economy and Political Science. There is, consequently, the temptation to create the corresponding Art of Public Finance. For when any science becomes at all "exact," it is easy and often desirable to point out possible direct applications of the truths learned. But although it is of the utmost importance that statesmen should be guided in their actions by correct principles, it is in no sense the duty of the scientist, as such, to make the application of the laws he may learn. Scientific investigation should precede, and ever remain independent of, any possible use of the truths discovered. In no other way than by the search for truth for its own sake, can we obtain absolute clearness of view.

4 INTRODUCTION TO PUBIIC FINANCE

Sec. 2. Public Finance, as a science, is older than Political Economy. Indeed, it is not incorrect to say

Older than *kat ^ was ^ ie ^ orerunner of both the Political sciences to which it is now tributary.

For the writings of the Cameralists dealt more fully with this part of the field of Political Economy than with any other. Public Finance as an art, and as the subject of more or less conscious study, necessarily arose as soon as there was a distinct separation between the income of the Government, or the State as such, and the income of the Prince : — that is, as soon as any direct levy was made upon the wealth of the citizens, or any property administered, to secure a revenue for an acknowledged public purpose broader than the mere support of the Prince's household. The necessity for officials properly trained to administer the vast princely and public revenues that flowed into the public coffers led to extensive studies in just this line ; and then the investigation into the origin and causes of the wealth of nations, as the foundation and source of public revenues, was the step which led to the birth of the greater science.

The writers on the Cameralistic science (which, because it at first embraced but little more than the matter now included in Public Finance, may be properly claimed as our science under another name) were stronger in Germany than elsewhere. 1

1 For an account of them see Koscher, Geschichte der National Oekonomie in Deutschland.

On this account the science has always had a stronger hold there than in France or England. In those countries the lead of the Phys- only parts of iocratic doctrine, the powerful influ- the subject ence of Adam Smith, and, after his English time, the intensity and rapidity of in- writers. dustrial development, directed the attention of students in such fields to the more general and more absorbing questions. Although Adam Smith himself devotes one book to the discussion of finance, and other writers of note give it passing attention, it was extremely slow in obtaining independent recognition. The predominance in both England and France of a theory of State which minimised the importance of government action may in part account for this neglect. The one part of the subject that did receive attention — namely, taxation — dealt with an activity that was admittedly necessary. But other fields, like that of expenditure, were comparatively neglected. The same blindness which led English economists to underrate the importance of a study of consumption, except so far as it led to new production, prevented them from seeing anything worth studying in State expenditure beyond, possibly, its effect on new revenues. Hence it is that while Germany piled treatise on treatise, all deep, scholarly, and broad, covering the whole subject of Public Finance, we have had to wait until 1892 for a systematic treatment of the whole field in the English language, and we still await such a one in French. 1 It must not be understood that portions of the subject were not investigated. There are, on the contrary, many important works on the various parts of the science. But what was entirely lacking until the appearance of Bastable's Public Finance, in 1892, was an attempt to systematise the whole subject.

Financial problems are becoming more important, because the functions of government which depend m , . on them have grown in importance and

The recent & r

growth of number. Our industrial, commercial, and social organisation has become more and more complex, and it hence requires better and more effective governmental organisation to keep it running smoothly. The more important it becomes to perfect our governmental organisation, the more do questions affecting the supply and application of material support rise into prominence. Whether we regard the constant expansion of the State's activities with favour or disfavour, it is equally important that the financial problems arising from these activities should be solved. Accordingly Professor Bastable's work has been followed by a flood of special articles, by the announcement of a treatise by Professor H. C. Adams, and by a translation of some of Professor Cohn's published writings on the subject.

1 Leroy-Beaulieu, however, covers all but expenditure in a masterly manner.

Sec. 3. On account of the close relation existing between Public Finance and Political Economy, most of the discussions as to the proper The same method for the latter bear with equal methods availforce upon the former. 1 But the nature political of the materials with which Public Fi- Economy. nance deals is such that in general the inductive method has a wider possible scope, and the deductive a narrower field than in the larger science. The historical and comparative method is most serviceable for ascertaining the conditions under which different kinds of taxation work. The general effects of taxation, its shifting and incidence, the effect of expenditure and public debts, can be best studied deductively. The deductions in this case are derived from the conclusions reached by the previous method, and from principles derived from Political Economy. Inasmuch as the purpose of the present book is merely to expound principles already determined by the science and to use the facts of financial practice rather as illustration than as proof of the doctrines advanced, it will not be necessary to acquaint the reader, in each case, with the method used to ascertain the truths stated. In the main, therefore, we shall follow what has been aptly called the method of instruction, which is in a sense an inverted induction, in which the principle is first stated and then sufficient facts are adduced to show that the principle is true.

1 Cf . Keynes' Scope and Method of Political Economy.

A

The subject falls naturally into four parts: (1) Public Expenditure, (2) Public Revenue, (3) Pub- Divisiono/the lie Debts, (4) Financial Administration. subject. of these, Public Expenditure and Fi-

nancial Administration have, until recently, not been the subject of important works in the English language, and, therefore, a few words in defence of their incorporation are necessary. Public Expenditure is as much a part of Public Finance as Consumption is of Political Economy. While it belongs peculiarly to Political Science to determine what the lines of expenditure shall be, just as it belongs to Ethics to teach the individual in what direction he should use his wealth, yet, when the lines of expenditure have been determined, its form, amount, and effect belong to Public Finance, just as the form, amount, and effect of consumption belong to Political Economy. Consumption, or the satisfaction of wants, is the end and aim of all production and distribution. So is expenditure the end and aim of the collection of revenues and of the other financial activities of the statesman. To exclude, at least, a statement of the forms and the customarv direction of expenditure would

Expenditure J L

should be be to overlook the purpose of all the included. regt> But there ig stm anot her consid-

eration that emphasises the need of a statement of the general objects of expenditure. The amount of expenditure is generally determined first, and after that has been settled the required revenue is obtained. In this Public Finance differs materially from Political Economy. In the broader science it is generally assumed that the individual cannot regulate his income by his wants, but must limit his wants to his income. In some cases this difference fades away. Cities often have to forego, temporarily at least, desirable improvements on account of the increased burden they would impose on the finances. But in general we find that the modern State is quite as likely to neglect some important and desirable function which it could perform, as to increase its functions beyond what would be wise. 1 If this is true, and that it is so will be seen in the course of the discussion, then it would be well to ascertain the main features of expenditure at the outset. But we are not obliged to justify or condemn the different lines of expenditure that are deemed by the leading nations to be wise or expedient. 2

1 Cf. Cohn, Finanzwissenschaft, p. 183.

2 Another strong objection to entering into a discussion of the advisability of the different lines of expenditure, has been mentioned above in the paragraph showing that Public Finance should be studied as a science and not as an art. If we discuss whether certain expenditures ought to be made, or should be enlarged, or curtailed, we are leaving the safe scientific ground of what is or will be. The danger of thus falling from the high plane of scientific impartiality to the level of political wrangling is frequently illustrated by the work of Leroy-Beaulieu. Bastable's work, although saved from anything like a similar failure by the author's masterly ability to defend his position, is yet certainly marred by too frequent judgments concerning the advisability of existing features of fiscal practice.

/ i

Financial Administration is properly regarded as the fourth division of the subject, because it is as necessary to know how a State gets its revenues as to know whence it gets them and for what it spends them. This department, too, deals with a large number of technical details which would only cumber the other parts if taken up in connection with them.

Of the four divisions, Public Revenue is necessarily , T 7 , the largest : probably for reasons akin

Needed re- ° x J

forms make to those that influenced previous Engu ic eve- jj k wr iters to give taxation their ex-

nue the most °

important elusive attention. It is here that the par ' most urgent reforms belong, and hence

the need of understanding existing conditions is most pressing.

The distribution of the various financial activities among the different divisions of the government, federal, national, or local, will be noted in connection with the discussion of each part of the subject.

Sec. 4. The continued lack of any systematic treatise on the subject has left classification in a Uniform most chaotic state. From the point of

method of view of form, merely, this is the most seri-

clctS SZ fxCCLtZOTL

for all parts ous defect in Bastable's pioneer treatise of the subject. on ^he su bject. It lacks uniformity in the methods of classification. In the present work the attempt has been made to use the same method of classification from beginning to end. It is that suggested by Professor Cohn for all public charges, and afterwards developed in a somewhat different way by Professor Seligman. 1 The charges made by the government upon individuals vary in character according as the special benefit conferred upon the individual is made the exact or the partial measure of, or is not allowed to affect at all, the burden imposed upon him. Public Revenues and Public Debts have already been classified in this way, and it is very easy to classify Public Expenditure and Administration in the same way.

The nature of this classification and its applicability to the whole subject may be explained by reference to the well-known customs of ~, .

The nature of

our large athletic clubs. For member- this ciassificaship, and the usual privileges of the club, t * on \ T~ , h each member is assessed the same sum, practice of irrespective of the actual extent to which athletic duhs ' he uses the club, and without reference to his ability to pay, that being assumed for this purpose to be equal to that of every other member, and certainly without reference to any known ability to pay more. This fee is justified by the common benefit conferred. If, however, the member makes use of the dining-room, or asks for special privileges such as the private use of the club quarters, grounds, boats, appliances, etc., he pays an additional sum, measured, generally speaking, by the special benefit con-

1 Cohn, Finanzwissenschaft, pp. 104-118, esp. pp. 117, 118;

Seligman, Quarterly Journal of Economics, May, 1892 and 1895.

Hints of the same classifications are found in Malclius and Hoffman.

f erred upon him. Again, if the club is in debt, or proposes to enlarge its facilities, not infrequently a subscription paper is passed around and each member is urged to contribute, not the same amount all others have subscribed, nor yet in proportion to the use he makes of the club, but " as much as lie is able." And lastly, there are not infrequently cases where poor but promising athletes have been admitted, in order that the club may have the glory of their prowess, and have been excused from dues.

Now there is an almost perfect analogy between such a club and the State in respect to the contributions demanded, the benefits conferred, and the method of operation. Generally speaking, the State endeavours, in collecting revenues, to impose an equal 1 burden upon all for the support of those functions that are regarded as conferring a common benefit, and a special burden for the support of those activities which confer a special benefit, and under certain circumstances to increase the burden imposed upon the very wealthy, who are regarded as able to bear more ; and lastly, to tax all for the support of the poor. Not that the State always succeeds in its endeavour, nor that all States recognise equally the desirability of the attempt; for in Public Finance expediency necessarily plays a large part. But most States have come to recognise more or less clearly these ideals, and their policy can be conveniently summarised in this way. 1 What is meant by " equal " will be discussed later.

The various activities of the State can be easily classified, according to the degree of common or special benefit they are supposed to state activiconfer upon the citizens, or tax -payers. ties con M

The various groups shade into one an- fit or special other, of course. But the extremes are bene fitperfectly clear and fundamentally different. Thus, it is universally admitted that the functions of the general administrative and legislative departments are of such a character as to give a common benefit, for which, ideally, every one should pay according to some scheme of supposed equality. But at the other extreme there are many things done by the State which confer so special a benefit as to justify a special charge. For example, when the State carries a passenger or a box of freight over its railroad, or carries a letter, or provides the citizens with china or tobacco, it confers a special benefit. Between these two extremes there are any number of grades, according as the predominant thought is that of common or special benefit, when both ideas are present. But there is one more consideration that must be introduced. There are a certain number of State activities which it is in the interest of the whole to have performed, but which accrue to the special benefit of certain classes, who on account of poverty are unable to pay for that benefit; and if the State is to perform these functions, it must call upon the other classes for assistance, excusing the poorer. Theoretically, the support of the poor and defective classes is an activity conferring a common benefit upon all the other members of society, and hence they are called upon to contribute accordingly. If we consider it the moral duty of society as a whole to help the weak, then the relief of the poor confers a common benefit. It is the same if we look upon poor relief from a less altruistic point of view, and consider that society is merely protecting its own interest, as, for example, in isolating the feeble-minded, so that they shall not propagate their weakness. Without going farther into details, which will receive attention later in the book, it is now clear that this method provides a feasible way of classif}- ing public activities and public revenues. When we once have a satisfactory classification of revenues, it is easy to classify debts, inasmuch as they rest upon the revenues. The administrative features of the financial bureaux will fall naturally into place also.

A single method of classification, therefore, will