In 1880, Henry George proposed that all taxes be replaced by a single tax on the unimproved value of land. While his tax idea never caught on, the economic benefits of a tax policy based on the idea have found a new life and are being advocated by Walter Rybeck at the consulting firm Just Economics (www.justeconomicsllc.com).
The rationale behind George's single tax idea is that virtually all taxes on economic activity create a disincentive to economic production. The lost productive value caused by a tax is called a deadweight loss by economists. The only taxes that do not create such a loss are taxes on resources where supply is perfectly inelastic. Perfectly inelastic supply means that whatever the cost of using the resource, the quantity of it used remains the same. One of the few resources with a perfectly inelastic supply is land. Certainly, if the tax on land exceeds its rental value, then it will be abandoned, but so long as the tax stays below that threshold, it will be used productively. Because overall government expenditure was so modist in 1880 when George proposed the idea, it would have been possible to replace all other taxes with a single land tax on the value of unimproved land (hense the "single tax" moniker). Today, a single land tax would not be enough to fully fund all government.
For local governments however, the idea holds some promise. Today, property tax policy genrally taxes both the unimproved land value and the value of improvements at the same rate. While the tax on the land itself does nothing to affect its use, taxing improvements creates a disincentive to improve land. What Rybeck advocates is shifting the tax burden towards the unimproved land value and away from the value of improvements (see Retooling Property Taxes ). Say in a city 2/3 of the total value of property is in the improvements while only 1/3 is the unimproved land value. Say the tax rate is originally X. Cutting the rate to 1/2X on the improved value and raising it to 2X on the land value, total property tax revenue is the same, but the economic incentives to use land are dramatically different. The cost of leaving land unimproved rises and the cost of improving it (via lower taxes) falls. Such a move is a win-win situation for cities as less land is left vacant and there is an incentive to use land more intensively.
The only caution is that such a policy will certanly lower the value of unimproved land. If the tax gets so high that the value of unimproved land falls too low, then it becomes hard to detemine how it should be used and the likelihood of abandonment rises. But a shift similar to my example above would not come close to creating these adverse effects.
Monday, June 14, 2010
Saturday, June 12, 2010
Value Capture
I attended a seminar a few weeks back entitled “The New Economics of Place.” As I believe placemaking is one of the most important aspects of redevelopment projects, I was really looking forward to a discussion of which investments would offer the most placemaking bang for the buck. Instead, the topic was how to justify government subsidization of redevelopment projects. While I happen to think this is a worthy goal, I am also fearful that there is a lot of room to massage data to make bad projects look good.
The new buzz word was “value capture.” In reality, value capture is a new term closely related to the long term economic concept of a positive externality. Positive externality is the economist’s term for the benefit from some action that accrues to someone not involved in the action itself. If my house looks shabby because of peeling paint, my repainting the house benefits my neighbors. Because I do not fully take into account these benefits that are external to me, I repaint my house less often then I should. Playing objectionable loud music in my back yard creates a negative externality. Economists are forever trying to figure out how appropriately subsidize actions that generate positive externalities and tax actions that generate the opposite.
For a public works project, say a new bridge across a river that will save 1,000s of people each several hours per week in driving, there is clearly a benefit to those other than the government agencies that paid for the bridge. In fact, land on both sides of the river near the bridge will increase in value. With the idea of value capture, the government agency could rightly tax these landowners by the amount of the increased land value to pay for the bridge. This value capture allows the bridge to be funded. To the extent the increase in land value exceeds the cost of the bridge, building the bridge was a good idea.
To digress a bit, an even better solution would be to make the bridge a toll bridge. If the toll money pays for the bridge and property values still rise, then it is clear the bridge was a sound economic decision.
Where the speaker was really going with this was that he thought that increased land value could and should be used to justify the expense of redevelopment projects. I actually think this is completely appropriate in certain cases. The difficulty is measuring the benefits. For example, he spoke of a project his firm had put together for a town of 50,000 on the Ohio River, many miles from the nearest town. The plan called for a reconnection of the downtown to the river and about 200 new condo/apartment units. He said the increased value of the new development and the surrounding land justified the millions of dollars of expense. But the devil is in the details. For the apartments, so long as the rents collected pay off the cost of construction, they are a good deal. But the millions of dollars spent to recreate the waterfront would certainly not be covered by the rent of the apartments or the retail and commercial space. Somehow, it needs to be argued that the increase in land value to the whole city paid for the waterfront redevelopment. But this is tricky. In a growing metro area, it could be argued that the waterfront would bring even more new in-migration from the rest of the state and/or country. However, in a declining river city in Kentucky, any new land value near the new development will likely be offset by declining land values elsewhere in the city. Higher rents in the redeveloped area mean lower rents elsewhere. I could be persuaded otherwise if the city’s population either stabilized or was reversed by the redevelopment, but it would take a substantial change in the population to increase overall land values by several million.
At the end of the day, value capture is a valid enough term that is way too easy to overplay.
There was another odd value capture story that came up after the talk. After the talk, the speaker mentioned that although fares from Dallas’ light rail system cover less than 25% of the operating costs (and zero of the substantial initial capital costs), that it was still a good deal via the value capture idea. I mentioned that a UNT geography student had looked at property values along the light rail lines both a year before the system was announced and a year after it opened for business. He found that the gains near the stations were virtually completely offset by losses along the lines but further away from the stations. He effectively showed that the $8 billion spent has generated zero benefit. The speaker countered that the only way to figure out the true value is to undertake such a study decades from now. In my opinion, land markets are very effective as assessing potential and they were telling us that the light rail offers little of that.
One attendee mentioned that the I-highway system was built not for suburban commuters but for intercity movement of goods. While I didn’t say anything, what I wanted to say was “wow, what a wonderful outcome that the benefit to the government’s highway system was much, much, much higher than anyone anticipated!” Talk about value capture! The I-highway system has caused the value of agricultural land near large cities to be worth ten times as much as residential land. Like I said, value capture is a really great concept, we just have to learn how to use it.
The new buzz word was “value capture.” In reality, value capture is a new term closely related to the long term economic concept of a positive externality. Positive externality is the economist’s term for the benefit from some action that accrues to someone not involved in the action itself. If my house looks shabby because of peeling paint, my repainting the house benefits my neighbors. Because I do not fully take into account these benefits that are external to me, I repaint my house less often then I should. Playing objectionable loud music in my back yard creates a negative externality. Economists are forever trying to figure out how appropriately subsidize actions that generate positive externalities and tax actions that generate the opposite.
For a public works project, say a new bridge across a river that will save 1,000s of people each several hours per week in driving, there is clearly a benefit to those other than the government agencies that paid for the bridge. In fact, land on both sides of the river near the bridge will increase in value. With the idea of value capture, the government agency could rightly tax these landowners by the amount of the increased land value to pay for the bridge. This value capture allows the bridge to be funded. To the extent the increase in land value exceeds the cost of the bridge, building the bridge was a good idea.
To digress a bit, an even better solution would be to make the bridge a toll bridge. If the toll money pays for the bridge and property values still rise, then it is clear the bridge was a sound economic decision.
Where the speaker was really going with this was that he thought that increased land value could and should be used to justify the expense of redevelopment projects. I actually think this is completely appropriate in certain cases. The difficulty is measuring the benefits. For example, he spoke of a project his firm had put together for a town of 50,000 on the Ohio River, many miles from the nearest town. The plan called for a reconnection of the downtown to the river and about 200 new condo/apartment units. He said the increased value of the new development and the surrounding land justified the millions of dollars of expense. But the devil is in the details. For the apartments, so long as the rents collected pay off the cost of construction, they are a good deal. But the millions of dollars spent to recreate the waterfront would certainly not be covered by the rent of the apartments or the retail and commercial space. Somehow, it needs to be argued that the increase in land value to the whole city paid for the waterfront redevelopment. But this is tricky. In a growing metro area, it could be argued that the waterfront would bring even more new in-migration from the rest of the state and/or country. However, in a declining river city in Kentucky, any new land value near the new development will likely be offset by declining land values elsewhere in the city. Higher rents in the redeveloped area mean lower rents elsewhere. I could be persuaded otherwise if the city’s population either stabilized or was reversed by the redevelopment, but it would take a substantial change in the population to increase overall land values by several million.
At the end of the day, value capture is a valid enough term that is way too easy to overplay.
There was another odd value capture story that came up after the talk. After the talk, the speaker mentioned that although fares from Dallas’ light rail system cover less than 25% of the operating costs (and zero of the substantial initial capital costs), that it was still a good deal via the value capture idea. I mentioned that a UNT geography student had looked at property values along the light rail lines both a year before the system was announced and a year after it opened for business. He found that the gains near the stations were virtually completely offset by losses along the lines but further away from the stations. He effectively showed that the $8 billion spent has generated zero benefit. The speaker countered that the only way to figure out the true value is to undertake such a study decades from now. In my opinion, land markets are very effective as assessing potential and they were telling us that the light rail offers little of that.
One attendee mentioned that the I-highway system was built not for suburban commuters but for intercity movement of goods. While I didn’t say anything, what I wanted to say was “wow, what a wonderful outcome that the benefit to the government’s highway system was much, much, much higher than anyone anticipated!” Talk about value capture! The I-highway system has caused the value of agricultural land near large cities to be worth ten times as much as residential land. Like I said, value capture is a really great concept, we just have to learn how to use it.
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