Serving two masters: the effect of state religion on fiscal capacity

Abstract

This paper examines the effect of having a state religion on fiscal capacity. Our analysis extends the legitimization argument, which postulates that a state religion legitimizes the revenue-raising motives of the state. We then argue that the effect reduces the incentive of the state to invest in fiscal capacity. First, we build a simple theoretical model to highlight our central idea and derive our testable hypothesis. The model shows that in the presence of a legitimization effect, countries with a state religion face weaker incentives to invest in fiscal capacity, as they can raise revenue by exploiting the legitimizing power of the church. Next, we test the hypothesis in a potential outcomes model, which models the selection on observables using both recent and historical data. We show, always following our theoretical model, that countries with a state religion have lower fiscal capacity.