JOURNAL OF
N
ELSEVIER
Journal of Economic Psychology 18 (1997) 305-321
Why people pay taxes" From a conventional
economic model to a model of social convention
John G. Cullis, Alan Lewis
*
Universi~ of Bath, Centre for Economic Psychology, Social Sciences, Clauerton Down, Bath, BA2 7AY, UK
Received 17 May 1996; accepted 15 September 1996
Abstract
This paper compares 'chauvinistic' models of tax (non)compliance derived from mainstream
neo-classical economics with the 'softy' approach of some psychologists, sociologists and other
interested parties. A 'third way' is developed which takes preferences over conformity to social
conventions into account, is more process orientated and less deterministic than traditional
economic models yet maintains their characteristic deductive stance.
PsyclNFO classification: 3600; 2960
JEL classification: H26
Keywords: Economics; Compliance; Taxation; Models
1. Introduction
"As one who has shared the chauvinism of the economics profession vis h vis
other social sciences, it is heartening to see practitioners of the 'softer' social
sciences conducting research on tax compliance as well . . . . It also consti-
* Corresponding author. E-mail: [email protected], Fax: +44 1225 826381.
0167-4870/97/$17.00 Copyright © 1997 Elsevier Science B.V. All rights reserved.
PII S01 6 7 - 4 8 7 0 ( 9 7 ) 0 0 0 1 0 - X
306
J.G. Cullis, A. Lewis/Journal of Economic Psychology 18 (1997) 305-321
tutes a fair fight among the various social sciences to see which can make the
most salient contributions to knowledge or, indeed, whether interdisciplinary
cooperation will produce superior results." (Wetzler, 1993, p. 255)
This somewhat patronising quotation neatly captures the themes of this paper.
Before pursuing these themes in earnest it is worth asking why the question of
tax compliance is important aside from curiosity. Again Wetzler, a tax commissioner in New York, offers a starting point. He suggests that potentially social
sciences can shed light on the following questions:
(i)
(ii)
(iii)
(iv)
(v)
(vi)
(vii)
what features of a tax induce (non)compliance;
how important are the evasion opportunities implicit in tax legislation;
what role does the characteristics of taxpayers play;
what are taxpayer perceptions of the fairness of a tax;
what are taxpayer perceptions about the fairness of any associated
expenditure;
what are the economic consequences of non-compliance;
what are the equity consequences of non-compliance.
(i) and (ii) focus on different tax types and the specific structure of different
taxes. Questions (iii) to (v) direct attention to the features and beliefs of
taxpayers whereas the final two questions pick up the perennial and almost
always conflicting concerns of neo-classical economics - efficiency and equity.
In Section 2 the economic approach to compliance is exemplified followed by
insights from social psychology (Section 3). Section 4 discusses a model that
may, depending on your view, encompass elements that allow it to be considered an economic (social) psychology approach to compliance. Section 5 offers
some brief conclusions.
2. Compliance: the chauvinistic way
Perhaps the clearest, most elegant and conventional account of tax compliance (evasion) is provided by Cowell (1985). The context is how much income
to declare to the taxman - how much to comply? The amount legally liable to
tax is given by OY in Fig. 1 and is liable to a proportional tax rate t. The
probability of detection is p and detected undeclared income is subject to a
surcharge at a rate s. Both axes indicate something about income; with the
imposition of a 45 ° line it is easy to move from one axis to the other and pick
out the same distances. Additionally, with OY as the pre-tax income on the
x-axis, all the 'action' takes place in the wedge below the 45 ° line, because it is
J. G. Cullis, A. Lewis/Journal of Economic Psychology 18 (1997) 305-321
income
caught
i(
tax due plus
surcharge on
concealed
income
income if all is
undeclared and
undetected
income with
detected
optimal
compliance
( 1 - t- ts) y4-ts Y*
307
3 i I.
i
/-
caught and
penalised
=(1-t-ts)
O'
,,
(1-t-ts)
=YI',
Y
(1-t
Y
,
tax
evaded
Y-tY"
Y
Y
income
, income with
'~ zero compliance
, but caught
', and penalized
income if
honestly comply
tax
paid
income with undetected
optimal compliance
Fig. 1. Cowell's economic actor's compliance decision.
difficult to imagine that the individual will ever receive a reward from the tax
authorities for evasion! If the individual is completely honest and declared Y,
net income will be ( 1 - t)Y. If he or she is totally dishonest and remains
undetected, his or her income will be Y. If on the other hand the dishonesty is
detected, income will be (1 - t - ts)Y ( = distance Y1 in Fig. 1).
It is easy to show the slope of the indifference curves representing preferences between income and income if caught which is given by ( - ) ( ( 1 - p ) / p ) •
( M U r N / M U r c ) where M U r c is the marginal utility of income if caught and
MUrN is the marginal utility of income if not caught. Using the 'certain'
extremes if p = 0 the indifference curve is infinitely steep and zero compliance
will be chosen. If p = 1 the slope will be zero and maximising a completely flat
indifference curve would pick out the honest complete compliance equilibrium
at point 2. With the more realistic cases of 0 < p < 1 the indifference curve will
not take on the above extreme shapes but look like U0 which as drawn implies
that utility is maximised at interior point 3. This point involves a declared
income Y * which is less than Y and implies an after-tax income of Y - tY *,
and tax evaded equal to t ( Y - Y *). It must be emphasized that this is the
position achieved if evasion is undetected.
308
J.G. Cullis, A. Lewis/Journal ()f Economic Psychology 18 (1997) 305-321
The beauty of this model lies in its determinism. Adjusting and predicting
compliance is a relatively easy and precise matter. The particular form of the
utility function means that an increase in the probability of detection rotates the
indifference curves anticlockwise, reducing the optimal amount of tax evaded
and raising the amount of tax paid. Increasing the penalty surcharge rate on
detection will move the 'trade off' segment 21 to a position like 24, which,
given the shape of the indifference map, also indicates that more tax will be paid
and less evaded. With individuals who display decreasing absolute risk aversion
an increase in income shifts the otherwise unchanged constraint, 1-2, upwards
and results in increased absolute tax evasion. Much attention has focused on the
'Yitzhaki result'. An increase in the tax rate (t to t') would shift the constraint
1-2 downwards (for simplicity not illustrated) in a parallel fashion indicating a
pure income effect. Again assuming decreasing absolute risk aversion a surprising outcome is generated as Y - t ' Y * * (not illustrated) will be to the left of
Y-tY*
(where Y*" is the new declared income) so that as the tax rate
increases more compliance is observed - a counterintuitive result. Empirically
this seems not to be borne out and a number of theoretical escape routes have
been devised (see, for example Pyle, 1989, 1990) that rely on: introducing
psychic costs into the utility function; tying utility to the tax rate and making tax
financed public goods part of the utility function.
Whatever the strength and weaknesses of these adjustments enough has been
said to illustrate the approach. When economic theory is applied outside the
bounds of what is narrowly thought of as 'the economy' a number of general
criticisms voiced by the unconvinced, come into play:
(i) the individuals modelled have a given set of preferences with no account
of where those preferences came from - they are exogenous, However, once the
time period becomes longer and people participate in the action under study
(alongside others) surely an endogenous approach to preferences is required;
(ii) the analysis takes place in analytical time that abstracts from experiencing events. However, it is so-called perspective time (where information is
incomplete, decision making stressful and choices are both irreversible and serve
to curtail future choices) that characterises the context of actual individual
choices;
(iii) economic models are about optimising-equilibrium techniques - what is
the best individuals can do? However, for many social scientists it is bounded
rationality or 'satisficing' behaviour that matters. Actions that will 'do' or are
the best of a limited range are the ones to analyze especially in a world where
short-run 'frictions' mean individuals do not rapidly move from one equilibrium
to the next as the value of a relevant variable changes;
J. G. Cullis, A. Lewis/Journal of Economic Psychology 18 (1997) 305-321
309
(iv) in 'extra' economic contexts it is often not clear whose utility function is
to be counted - a representative individual, the household head, an amalgam of
the utilities of affected parties etc;
(v) the actors involved and often the institutions they inhabit have no internal
content, inter/intra personal (institutional) conflicts seldom appear etc.
(vi) in 'extra' economic contexts the empirical work often employs proxies
for 'non-economic' or unobservable variables and hence becomes difficult to
evaluate;
(vii) the technical assumptions often required for determinacy can always be
targeted for dispute;
(viii) once outside economic contexts the specified constraints on individual
behaviour may involve specific knowledge of the law, technology, accountancy
etc. all of which might only be vaguely understood by economists per se.
An evaluation of these common criticisms or variations on them is not the
point here, rather they indicate what people (academics?) apparently want to see
in models of (taxpaying) behaviour that is apparently absent from the chauvinistic approach.
3. Compliance: the softer way
The comments from Wetzler (1993) concerning what social scientists can
shed light on is really not very different from the statements of nearly thirty
years ago by Alan Williams (1966), and a great deal has happened since 1966.
The work of SchmiSlders (1970), Coughlin (1982), Lewis (1982), Hessing et al.
(1988), and of course K.-E. Wiirneryd himself (W~irneryd and Wahlund, 1982)
comes to mind: contemporary research involving experts in Law and Sociology
as well as Psychology, Economics and Tax Administration is well represented
by Kinsey (1988), IRS (1991), Slemrod (1992). Special editions of the Journal
of Economic Psychology on taxation have appeared in 1982 and 1992. Social
surveys employing questionnaires and interviews have been the main behavioural methods but computer-aided simulation and experimental studies have
also been pioneered by Webley et al. (1991).
Because the 'softy' material is now not inconsiderable it is a good time to
take stock.
The economic approach has obvious analytic appeal but lacks realism and
humanity. The key feature of virtually all behavioural treatments is that the
values, attitudes, perceptions and morals of economic actors are of paramount
importance: evasion is not just a function of opportunity, tax rates, probability of
310
J.G. Cullis, A. Lewis/Journal of Economic Psychology 18 (1997) 305-321
detection and so forth but of an individual's willingness to evade (or comply).
Put at its starkest it means that when tax attitudes are favourable tax compliance
will be relatively high; that there is more to economic man and woman than
utility maximisation for economic gain alone. It is also generally recognized that
the fiscal policies and tax enforcement regimes on the one hand and tax attitudes
and fiscal consciousness on the other are interdependent. Using the stick rather
than the carrot, in a democracy at least, can lead to increased tax resistance: a
system which loses the faith of the electorate and of taxpayers is in deep trouble;
without voluntary compliance there would be chaos.
With these points in mind the tax authorities of the USA, the UK and
Sweden, to pick just three, have made strides to improve communications
between taxpayers and bureaucrats: to treat taxpayers as 'consumers,' to be
responsive to their needs, to enlarge and improve 'fiscal consciousness' (James
et al., 1987). Many tax authorities in developed nations now regularly record
taxpayer attitudes both towards particular services and more generally attitudes
towards the efficiency, honesty and legitimacy of governments and government
institutions.
Talk of social constructionism is everywhere in the wind like pollen and
rather than merely being fashionable the ideas are highly relevant to tax
compliance. Economists tend to see (construct) tax evasion as a technical
problem; social scientists (including psychologists) as a social problem. Following the social constructionist line the whole notion of tax compliance can be
viewed as socially constructed by the principal actors. Tax 'enforcement'
officers have beliefs about tax evaders, who they are, what they are like.
Taxpayers (including evaders) likewise have notions about tax officers, their
beliefs and how they will behave. None of these beliefs need to be 'true' in any
'objective' sense but if the players in the game believe them to be (and act as if
they do) then the reality is constructed. It follows from this that any analysis
must examine these constructions and that the rhetoric of 'rational economic
man' is far from an abstract idea and can become instead the guide and map for
dealing with everyday life and social problems. If we believe taxpayers are
selfish utility maximisers, taxpayers will behave like selfish utility maximisers.
If we believe taxpayers have a moral nature, a sense of obligation or civic duty,
taxpayers will reveal this side of their nature. There are alternative ways of
being: we can (and economists should like this) given certain constraints,
choose.
From a long list three related factors complete out 'softy' agendas, namely
norms, conformity and compliance. In social psychology and sociology individuals are rarely considered in isolation as all are members of social groups,
J. G. Cullis, A. Lewis/Journal of Economic Psychology 18 (1997) 305-321
311
societies and cultures. Consequently behaviour is not a function purely of
individual choice: individuals look to others in order to decide what is acceptable, reasonable, expected within the social context is which the action is set.
There are social norms to behaviours and beliefs, we conform to others: even
'deviants' do this as for example it could be that all or most small builders
understand (often implicitly) that 'cash in hand' payments for small amounts
need not be declared to the revenue authorities and if an individual builder
started 'rocking the boat' by doing so the implicit social rules might well be
made more explicit and compliance with the norms of the group subtly or less
subtly demanded. Looked at in this way the decision to evade, however covert,
is always in a sense social as it is dependent on these 'sub-cultural' influences as
well as other social factors including social comparisons, equity and fairness
considerations: a builder might argue that complete and total compliance would
put him out of business as all his competitors evade.
It may seem like a miracle but for much of the time people do comply with
the rules and laws when they have made their appropriate 'adjustments'. And
the work of Kelman adapted to tax compliance by Vogel (Kelman, 1965; Vogel,
1974) is relevant as it illustrates how people can comply behaviourally for
different reasons. Kelman's tripartite typology is of Compliance, Identification
and Internalisation (Vogel employs 'Conformist' and 'Deviant' versions of all
three). 'Compliers' pay their taxes because they are required to do so and fear
the consequences if they do not; 'Identifiers' are influenced by social norms and
the beliefs and behaviours of people close or of importance to them; 'Internalizers' have a genuine consistency between their beliefs (including moral beliefs)
and their behaviour. In this typology the 'compliers' are all rational economic
men and women whereas if the majority were 'internalizers' (providing the
beliefs were the right ones) there would be little need for tax enforcement at all.
4. Compliance: the economic psychology way?
One of the limitations of the conventional economic approach relates to the
question of economists' 'Chicago' positivist methodology in that it "does not
easily come to terms with observed tax behaviour" (Bordignon, 1993, p. 345).
Here we concentrate on the rogue observation that some people never evade
even when the gamble is better than fair. A cause of this limitation as viewed by
social psychologists is that the conventional economic approach appears to take
place in a human vacuum. Elements that make 'people' people tend never to
appear. Tax evasion has psychic costs (people may not be comfortable with
312
J. G. Cullis, A. Lewis/Journal of Economic Psychology 18 (1997) 305-321
dishonesty, see Spicer, 1986) and its extent is influenced by such factors as the
perception of fairness of the fiscal system, the number of their friends and
relatives who tax-evade etc. An aspect of the 'Chicago' not so positivist
methodology is a willingness to expand the utility function as a response to
empirical difficulties. It is always possible to repair doubtful results by introducing, in a convenient analytical form, elements that make 'people' people. Three
studies in particular introduce terms into the utility function that give individuals
internal and external content. Gordon (1989) has individuals who can suffer both
a private psychic cost of evasion as well as a reputation cost that captures
taxpayer interdependence. Bordignon (1993) introduces a fairness constraint that
depends on the taxpayment, the quality/quantity of government goods received
and tax evasion by other taxpayers. Most recently Myles and Naylor (1996)
have a social custom source of utility, which arises when taxes are paid
honestly, and a social conformity source of utility that arises when an individual
adheres to the standard pattern of social behaviour. In borrowing from psychology and applying the maximising logic of economics these contributions are a
form of economic psychology. The complementary task here is to elaborate this
form by connecting it to a richer picture of the economic actor and outlining the
'market failure' problems that arise in a process of social convention construction.
In the early 1990's a number of journal articles all seemed to highlight a more
real and complicated economic actor with a more sophisticated range of actions.
Individuals were seen as multifaceted encompassing a multiplicity of motivations (Kuran, 1990). In a somewhat similar vein Chirinko (1990) considers
players in a non-co-operative game, who have egoistic and altruistic 'selves'
within them.
Furthermore, it seemed fruitful to consider individuals who could make
utility-enhancing investment decisions that could alter the nature of themselves
Aaron (1994) Director, Economic Studies, Brookings Institution is an economist who has gone furthest in
highlighting the utility function weakness of standard micro economic theory. He suggests a utility function
representation of individuals who consist of "more than one, possibly many, utility functions" (p. 15).
Economic goods may enter utility functions seen as arising from: logical choice (expected utility theory); our
own self-image and self-respect; the exercise of altruism and spite; concern with the fate of other individuals,
animals and objects; interpersonal relationships and the regard in which you are held by others (reputation);
the ability to set targets for oneself and achieving them. Economic actions may appear in one or more of our
utility functions and may have opposite marginal utility signs, e.g. opting for the 'sucker' strategy in a
non-repeated prisoner's dilemma game will be a negative in terms of expected utility theory but may be a
positive in terms of the self-regard, reputation utilities etc. How tractable such an approach will prove to be is
a matter for "creative theoretical work ... between economists and psychologists" (Aaron, 1994, p. 13).
J.G. Cullis, A. Lewis/Journal of Economic Psychology 18 (1997) 305-321
313
and the people around them. Guttman et al. (1992) show how investing in
altruistic preferences via education is a Pareto-preferred strategy. Roback (1989)
has individuals who can alter the price of conforming to a social norm and
thereby influence their environment. It is this last lead that is directly adapted to
the task noted above. The utility function employed is reminiscent of Kuran's
(1990) account of multifaceted individuals with three sources of utility that
broadly correspond to actors that inhabit the disciplines within social sciences.
These might be interpreted:
y
c
s
=
=
=
consumption of private goods = economic actor;
decision autonomy = psychological actor;
knowledge of the actions of and your reputation with others = socioeconomic actor.
(Decision autonomy is about the value and ability to choose for oneself
whether or not to conform to social pressures that would otherwise guide
action.) With this as background an outline model of tax compliance can be
developed that hopefully meets some of the criticisms of the 'chauvinistic' and
'soft' approaches.
Roback's (1989) model is about conforming to a social cum economic rule of
racism but is clearly meant to be general. The societal convention under
consideration is tax compliance and the notation of the model reflects this.
Conveniently reflecting part of the above discussion Roback has individuals
whose utility can be represented as:
U=U(Y,C,S),
(1)
where:
Y
C
S
=
=
=
income; or a composite of all goods;
individuals' degree of conformity to the convention of compliance;
the fraction of society ( = all individuals) that comply.
Individuals gain utility from their own compliance with a social convention.
The extent of others' compliance with a rule may offer a direct psychic utility
gain or an indirect utility gain via pecuniary consequences. Roback models
social rules or norms as public goods so that the term S represents a non-rival,
non-excludable intangible good. Fig. 2 although presentationally less elegant
than the original model from which it is derived is sufficient for the pedagogic
purpose at hand. It is assumed that a two identical person society (individuals A
and B) can adequately capture the key issues involved in the investment
production and consumption process of social norms. In keeping with the
J.G. Cullis, A. Lewis~Journal of Economic Psychology 18 (1997) 305-321
314
It Productionray
!
/
Pc = f ( Icl]ct-1%' O"" )
~
t
Pc~
,
I Consumptionchoice
\
!
~
.
2 P2 E
~ Ds=~1Di. ~1Di
\
b'
0
Ic
d,,\.~ i
6
!
ICC
q~
ql q2
S/t
1
-"
12
I1! Investment choice
Fig. 2. M o d e l l i n g social c o n v e n t i o n .
Roback model it is assumed the individual can invest (Ic) some income in
altering the price of conformity and thereby the numbers conforming. The price
of conformity to a norm of compliance has, at least, two dimensions. There is
the direct pecuniary element of paying all taxes that are due. There is also the
psychic cost of you thinking you are being a sucker and of feeling that you are
being thought a 'sucker' by others for paying taxes when you could have been a
'free rider'. More broadly this can be thought of as Kuran's (1990) reputational
utility. (Dealing with the obverse even the most ardent neoclassical economists
have noted that individuals attach disutility to their dishonest behaviour and the
loss of reputation with others so that non-pecuniary effects matter. Indeed as
noted above to make observation gel with theory economists have tended to
introduce variables such as the stigma of evading.) A reduced price of conformity then will include the pecuniary pay-off of a lower tax rate faced by an
individual for a given level of tax revenue raised if general compliance is higher
rather than lower. Also the price of conformity is lower if the 'cost' of being a
sucker via your view of yourself and others' view of you is lowered (utility of
honesty raised).
J. G. Cullis, A. Lewis~Journal of Economic Psychology 18 (1997) 305-321
315
Quadrant 1 contains the demand curves for the individuals for social norm
conformity. As such the y-axis records the price of conformity (Pc) and the
x-axis the quantity of conformity observed per period ( S / t ) . It is taken that S is
a continuous variable 2 rather than a simple dichotomous 'Yes you conform' or
'No you do not' variable. In this sense it is in keeping with Cowell whose model
determines the extent of evasion (the amount of income to declare). Curve DAe
( = DBe) reflects the individual's demand to conform at each price level reflecting the private desire to conform. Horizontally summing these 'private' demands yields the two-person society's private demand for conformity labelled
Ezi=~ D F. In keeping with the above discussion the 'sociological person' values
the knowledge that the other person conforms (or not). This external demand is
illustrated as DAE ( = Dae). Since both individuals can value the same unit of
conformity the two-person society demand for others is the vertical sum of the
individual curves which, to ease exposition, have been constructed to yield
~ = ~DiE ( = DAP = De). The final step is to sum the private demands for
conformity with the external demands for conformity in a vertical way to yield
society's demand for conformity Ds = Y~i=
2 1Die + El=
2 i DiE. Given this 'mixed
good' construction the extent of conformity observed depends on equating the
private demand for conformity (isolated individuals ignore the effects their
decisions have on others) with the price of conformity that obtains in the
'market place'.
As noted above individuals govern the price of conformity through an
investment process. In quadrant III the line a - b indicates how each of the
individuals could allocate their income. They can reserve it for expenditure or
goods and services (Y) (including spending on conformity) or allocating it to
investment (lc) in the process of price of conformity determination. Both
individuals A and B will find equilibrium initially at point 1 where the slope of
the indifference curve I 0 equals the slope of a - b so that the marginal rate of
2 There is the question whether conformity to a social convention should be modelled as a dichotomous or
continuous variable. At one level individuals either do or do not and the variable should be of the ' y e s / n o ' ,
'zero/one' variety. This approach is rejected here for several reasons. First, on closer inspection dichotomous
variables are often continuous, e.g. people are neither left nor right handed, rather they vary across a spectrum
between being extremely right handed or extremely left handed with ambidexterity in the middle. Second,
given the topic is tax evasion, it seems closer to reality to allow for a range of evasion from zero to complete.
In everyday life 'some for me alone' and 'some for me and some for the taxman' seems to be an attitude to
earnings commonly encountered. Third, the analysis could be amended to allow for a more zero/one approach
by making the demand curves at a particular price of conformity perfectly elastic. However, the position taken
here is that this would be a special case.
J. G. Cullis, A. Lewis/Journal of Economic Psychology 18 (1997) 305-321
316
transformation between lc and Y is equated with the marginal rate of substitution between lc and Y:
MRS*c- r = MRTIc- r.
(2)
However, because the investment process has public goods characteristics what A allocates to lc can be consumed by B via the price of conformity and
vice versa - their private decisions will be sub-optimal. Both A and B choosing
point 1 puts society at point 2 which puts the individuals into a position of
non-optimality. They can increase utility by adjusting to a point such as 3 which
for the two-person society causes point 4 to arise which is the equilibrium
brought about by individual adjustment and has MRSlc_ r = MRTIc-r (along
c - d which is parallel to a-b). At point 4 the level of societal investment in
conformity is q~.
To complete the picture quadrant II illustrates the 'production ray' that
converts the level of societal investment to the price of conformity other things
equal. The other things equal that are likely to be important here are: the
inherited level of past investments ( i c,_ ~), the production technology of the
process (Tc) and the organisational/entrepreneurial aspects of the process - the
degree of efficiency with which the technology is utilised (O). As Ic increases,
ceteris paribus, the price of conformity decreases as a movement to the left
along the production ray illustrated is effected.
With q~ the price of conformity P0 is generated and q~ is the quantity of
conformity observed in society in this private adjustment equilibrium at point 5.
This is the equilibrium that would be predicted as resulting from isolated
decisions. As this is a classic public goods model there is a difference between
individual decisions and those which characterise collective investment adjustment where
2
E M R S , c _ r = MRT,~_ r.
(3)
i=l
That is with Pc common to all it is the sum of the 'benefits' to both (all)
individuals in the investment process that matters. Such an equilibrium occurs at
point 6 on ]2 where the individuals equate their MRStc_ r with ½MRTIc_ r as
the slope ab' is half that of a - b (= slope of c-d). Summation of MRS/c_ r
= ½MRT/c-r for A with the equivalent equality for B would yield equality (3)
above. If point 6 is achieved investment q~ would arise and the price of
conformity would fall to P~ and quantity of conformity would rise to q~
associated with point 7 in quadrant I. This second equilibrium which arises
J. G. Cullis, A. Lewis/Journal of Economic Psychology 18 (1997) 305-321
317
when the public goods problem of investment is solved may well not be a 'full'
equilibrium. In Fig. 2 a price of conformity of P2 is required to generate a
choice at point 8 and a quantity of conformity q~ that internalises consumption
externalities. Whilst further elaborations are possible some summary points
suggest that different levels of conformity to the norm of compliance will be
observed depending on:
(i)
(ii)
(iii)
whether the public goods problem in the investment process is solved;
the location of the production ray especially the value of the variable O;
whether the consumption externality problem is solved fully.
Whilst the model sketched here is subject to many of the criticisms detailed at
the end of Section 2 (e.g. how easy is it to empirically proxy the 'price of
compliance' to a social convention) it has some positive features relevant to the
process of understanding tax evasion. To illustrate:
(a) Given the difference between the individual and collective equilibrium
societies will vary in their norm of compliance rates depending on how
effectively the public goods problem is solved (the existence of a possible
'consumption' externality even when investment is optimal rationalises the
feeling that you have 'done your bit' towards tax compliance production but
there is still not enough compliance observed).
(b) Once an investment process is involved there is a question of depreciation. The production ray for the price of conformity can be thought of as drifting
upwards in Fig. 2 in the next period if insufficient gross investment is not
forthcoming each current period to hold Ic,_ ~ constant. Net investment in this
period can be thought of as increasing Ic,_ ~ next period and lowering the
production ray in quadrant II in Fig. 2.
(c) Individuals may invest in public a n d / o r private mechanisms in response
to the inefficiencies noted above to raise the level of the social conformity
compliance.
(d) Individuals themselves whilst exhibiting the behaviour noted in (b) may or
may not comply themselves. This depends on whether their marginal benefit
exceeds the price of conformity and in this sense decision autonomy is maintained albeit governed by an economic mechanism - there is no necessary
disjuncture between investing to extend a social norm of compliance and not
complying yourself.
(e) Rent-seeking political and social entrepreneurs will appear to accept those
investments resulting in diverse institutions varying from, say, taxcodes, a public
enforcement bureaucracy to tax farmers.
(f) Given that in most societies (and until relatively recently in most eco-
318
J. G. Cullis, A. Lewis/Journal of Economic Psychology 18 (1997) 305-321
nomics texts) the government is seen as the main solver of public goods
problems it is public institutions that tend to arise.
If this type of analysis is accepted it provides a backdrop to the tax histories
of different countries. Here tax compliance is a socialised and politicised matter
that lends itself less easily to deterministic outcomes. Investment patterns will
differ and results specific to different countries and time periods. Expanding on
this approach, once, or if, the public goods perspective is accepted, it raises the
question of the response to the 'free rider' problem, i.e. it generally requires
some type of extra market mechanism to foster efficiency. It directs attention
towards the role of opinion formers, interest/pressure groups, nominated or
elected officials and political parties. Such individuals or groups have disproportionate ability to influence Pc (superior production rays).
Supporting a political party that will legislate and enforce a tax code is the
most fami!iar way in which the 'free rider' problem inherent in public goods
provision is resolved. Most people tax-comply because they have implicitly put
themselves in a position in which they have a tax system that reflects the
production of compliance norms. The indirect taxes become a fairly invisible
part of the prices individuals face and they pay direct (income) taxes on a
withholding basis. But this is not to imply that individuals lose control over tax
compliance. The recent spectacular failure of what became known as the poll tax
in the UK can stand witness to this. Whilst the 'Community Charge', to give it
its correct title, had a rationale in terms of increasing accountability in local
government spending (Smith, 1991) it clearly did not prove acceptable as a
method of securing that objective. As Heady (1988, pp. 186-187) notes " T h e
simplest system of lump sum taxation consists of uniform lump sum payments
by all citizens (often referred to as a 'poll tax'), but most governments regard its
distributional effects as unacceptable, either because they have a genuine
concern for income distribution or because they believe that the population
would not accept a system of taxation that did not fall heavily on those with the
greatest ability to p a y . . . " (emphasis ours).
The 'would not accept' phrase raises the issue of tax resistance as opposed to
compliance, Bowles and Jones (1993) model the UK Poll tax resistance in a
(modified) chauvinistic way. The economists standard model of compliance, as
noted above, rests on income, the tax rate, the probability of detection and the
fine or surcharge imposed on unpaid tax or undeclared income. To get purchase
on tax resistance Bowles and Jones had to adopt a term Z (the psychic benefits
associated with resisting the poll tax which was empirically proxied by Labour
Party influence).
In terms of the model outlined in Section 4 the explanation for resistance
J.G. Cullis, A. Lewis/Journal of Economic Psychology 18 (1997) 305-321
319
would involve reduced investments in the production of conformity so that its
price rose. The price of conformity would be raised directly because the poll tax
involved tax increases for many, especially those on low incomes, when it
replaced previous local property tax (rates). Furthermore the 'sucker' price of
paying was easily raised by the tax's patent unfairness and by individuals
(including some MP's) and groups announcing that they would not be paying. A
full analysis of the investment process by which the sucker element of the price
was affected would involve: individuals complaining and whining about the
particular tax; threats to alter voting allegiance; failure to register for the tax;
petitions and letters to MP's; lobbying and pressure group influence and public
demonstrations and riots (which did occur). Bowles and Jones found that
hardship/disadvantage and the level of the poll tax were significant variables in
explaining the tax collection proportion in London Boroughs whereas the proxy
for Z (the psychic variable) was not. In the formulation here the price of
conformity is a common variable over a constituency, so unless the demand for
conformity is systematically identified with party variables the lack of success in
finding a Labour Party influence on non-compliance per se is not surprising.
The standard query/question directed at the chauvinistic-economic approach
to taxpaying behaviour is: " W h y do people pay taxes more or less honestly
when cheating is easy and virtually undetectable?" (Slemrod, 1992). The
answer provided here by an economic (social) psychology approach is that
general tax compliance is a utility generating social norm that varies with the
ability of different societies to solve the inefficiencies associated with the
provision of a public good and hence the price of conformity. Because numbers
conforming vary with the price involved in circumstances where the price of
conformity rises, like those associated with the UK poll tax, compliance falls.
Smith (1991) reports the current UK prime minister Mr Major as describing the
poll tax as 'uncollectable' - the (short run) price of compliance was too high for
many to conform.
5. Conclusions
The question at hand is 'How to explain individuals' taxpaying behaviour?'
The substantive section of this paper has offered three perspectives on this
question. The chauvinistic approach details the standard economic approach of
modelling individuals as exhibiting narrowly rational, optimising behaviour
generating outcome predictions about the level of tax compliance. The policy
variables of the penalty surcharge rate, the detection probability and the tax rate
320
J.G. Cullis, A. Lewis~Journal of Economic Psychology 18 (1997) 305-321
are largely exogenous to this approach. In this positive approach the empirical
world is the check on theory.
The softer approach stresses the importance of values, attitudes, morals, and
fiscal consciousness, the voluntary nature of compliance, norms, conformity and
compliance. The softies argue that people have alternative 'ways of being',
comply with taxes for different reasons and that the tax compliance problem is
in part socially constructed. In this context the empirical world is more the
reflection of accepted theory and not the check on it.
What has been dubbed here as the economic psychology approach retains
some of the features of the chauvinistic approach but hopefully in a rather more
fruitful setting. The individual's utility function does not represent a person who
is narrowly rational, amoral, expected utility (of income) maximiser but rather
someone who has a multifaceted nature. They remain concerned about their own
goods and services but also their own individual decision autonomy and in
particular the number of other individuals that conform to the social norm of tax
compliance. The level of tax compliance is endogenous in that individuals can
invest to alter the price of conformity. Although it is true that the process is an
optimising one, it is a process that is involved rather than just outcomes being
the focus of concern. People have preferences over what they themselves and
what others do and they have a price mechanism through which they can
influence the actions of others and themselves. The pubic goods aspect of the
framework gives rise to different paths of response depending on how historical,
political and other factors impinge on mechanisms to solve the inherent 'free
rider' problem.
Acknowledgements
A first draft of this paper was presented at the 23rd International Congress of
Applied Psychology, July 1994 in Madrid. The authors are grateful for comments received then, and more recently from two anonymous referees, in aiding
the revision of this paper. The usual disclaimer applies.
References
Aaron, H.J., 1994. Public policy, values and consciousness. Journal of Economic Perspectives 8(2), 3-21.
Bordignon, M., 1993. A fairness approach to income tax evasion. Journal of Public Economics 52, 345-362.
Bowles, R. and P.R. Jones, 1993. Nonpayment of poll tax: An exploratory analysis of tax resistance.
International Review Law and Economics 13, 445-455.
J.G. Cullis, A. Lewis/Journal of Economic Psychology 18 (1997) 305-321
321
Chirinko, R.S., 1990. Altruism, ego and the role of social capital in the private provision of public goods.
Economics and Politics 2, 275-290.
Coughlin, R., 1982. Ideology, public opinion and welfare policy. University of California, Institute of
International Studies.
Cowell, F., 1985. The economic analysis of tax evasion. Bulletin of Economic Research 37, 163-193.
Gordon, J.P.F., 1989. Individual morality and reputational costs as deterrents to tax evasion. European
Economic Review 33, 797-805.
Guttman, J.M., S. Nitzan and U. Spiegel, 1992. Rent seeking and social investment in taste change. Economics
and Politics 4, 31-42.
Heady, C., 1988. 'The structure of income and commodity taxation'. In: P.G. Hare (Ed.), Surveys in Public
Sector Economics. Oxford: Basil Blackwell.
Hessing, D., K. Kinsey, H. Elffers and R. Weigel, 1988. "Tax evasion research: Measurement strategies and
theoretical models'. In: W.F. van Raaij, G. van Veldhoven and K.-E. W~irneryd (Eds.), Handbook of
Economic Psychology. Dordrecht: Kluwer.
IRS, 1991. Closing the Gap: Alternatives to Enforcement. Conference Report. Washington, DC: IRS
(Department of the Treasury).
James, S., A. Lewis and F. Allison, 1987. The Comprehensibility of Taxation. Aldershot: Avebury.
Kelman, H., 1965. Manipulation of human behaviour: An ethical dilemma for the social scientist. Journal of
Social Issues 21, 31-46.
Kinsey, K., 1988. Theories and models of tax cheating. Criminal Justice Abstracts 18, 403-425.
Kuran, T., 1990. Private and public preferences. Economics and Philosophy 6, 1-26.
Lewis, A., 1982. The Psychology of Taxation. Oxford: Martin Robertson.
Myles, G.D. and R.A. Naylor, 1996. A model of tax evasion with group conformity and social custom.
European Journal of Political Economy 12, 49-66.
Pyle, D., 1989. Tax Evasion and the Black Economy. Basingstoke: Macmillan.
Pyle, D., 1990. The economics of tax payer compliance. Journal of Economic Surveys 5, 163-198.
Roback, J., 1989. Racism as rent seeking. Economic Inquiry 27, 661-681.
SchmiSlders, G., 1970. Survey research in public finance: A behavioural approach to fiscal policy. Public
Finance 25, 300-306.
Slemrod, J. (Ed.), 1992. Why People Pay Taxes: Tax Compliance and Enforcement. Ann Arbor, MI:
University of Michigan Press.
Smith, P., 1991. Lessons from the British poll tax disaster. National Tax Journal 44, 421-436.
Spicer, M.W., 1986. Civilisation at a discount: The problem of tax evasion. Journal of Public Economics 46,
13-20.
Vogel, J., 1974. Taxation and public opinion in Sweden; an interpretation of recent survey data. National Tax
Journal 27, 499-513.
W~irneryd, K.-E. and R. Wahlund, 1982. Taxes and economic behaviour: Some interview data on tax evasion
in Sweden. Journal of Economic Psychology 2, 187-211.
Webley, P., H. Robben, H. Elffers and D. Hessing, 1991. Tax Evasion: The Experimental Approach.
Cambridge: C.U.P.
Wetzler, J.W., 1993. Review of 'Why People Pay Taxes: Tax Compliance and Enforcement', J. Slemrod
(Ed.), 1992. Ann Arbor, MI: University of Michigan Press. National Tax Journal 46, 255-257.
Williams, A., 1966. Tax policy - Can surveys help? Political and Economic Planning 32, 4-40.