COMMENTARY

Value Capture - Bypassing the Infrastructure Impasse
November 17, 2016

There is a consensus view that we need infrastructure improvements, at a national and local level, but we have disagreement over priorities and funding. People want better rail, ports and roads, but would prefer that someone else pays. These disagreements can be mitigated with funding mechanisms – in particular, value capture – which extract signals from investors about the most valuable projects.

One of the priorities for the incoming White House administration is infrastructure, according to comments from President-Elect Trump and adviser Steven Mnuchin. At a local level, infrastructure rejuvenation is a priority but there is disagreement about what infrastructure is most important and who will bear the cost. Southeast Michigan voted against a $3 billion tax to fund rail and bus services. In contrast, gas taxes in Michigan are relatively high, according to data from the American Petroleum Institute, and will increase by 7.3 cents per gallon next year.

Funding infrastructure is a complex problem for the following reason. The benefits are dispersed across a very wide range of people and businesses. This makes is very difficult to get a clear signal from the beneficiaries as to just how valuable the spending is, and who is going to benefit. The uncertain size of aggregate benefits, and the allocation of benefits, makes it hard to determine who should fund the infrastructure. This explains why voters turned their back on the proposed RTA tax – they were not convinced that the aggregate benefits exceed $3 billion and that the cost is fairly allocated. It is easier to make the fairness case that high mileage drivers with larger vehicles pay more for roads.

The problem of working out the aggregate benefits, and the allocation of those benefits, has important implications for infrastructure priorities. Markets are very good at allocating capital to the most high benefit uses. But once these market signals are removed, as is the case with much infrastructure decisions, we are left with estimation and its imprecision. What would aide decision-makers are funding mechanisms to extract direct signals from those who benefit from infrastructure.

One funding mechanism is, in broad terms, value capture. Who gets the most value and what are they prepared to pay? In specific terms this can include betterment levies (levies on owners of unimproved land to reflect increases in property values), the sale of development rights (private contractors are sold land in a public tender as part of the development), or a change of use charge (a charge to reflect the increased value from re-zoning to a higher valued zoning rule).

There are two reasons to consider different types of value capture to fund infrastructure.

First, other forms of taxation are less efficient. Increases in corporate taxes provide a disincentive for investment and an incentive to find sophisticated ways to shift profits from the jurisdiction. Increases in personal income taxes are a deterrent to taxpayer effort. In economics, the negative impact on incentives and productivity is referred to as a dead-weight loss. Furthermore, corporate and personal income taxes are levied on businesses and individuals who can often see no clear link between the tax and the infrastructure benefit.

Second, value capture can be used to get a clear signal from the beneficiaries of infrastructure regarding who will benefit and how much they will benefit. Consider the sale of development rights, and re-zoning applications. Property developers have an economic incentive to acquire land in regions that will benefit from infrastructure spending. They will also argue for zoning changes to reflect the highest value potential for land, again signaling which infrastructure generates the most value.

In short, there is a consensus view that we need infrastructure improvements, at a national and local level, but we have disagreement over priorities and funding. People want better rail, ports and roads, but would prefer that someone else pays. These disagreements can be mitigated with funding mechanisms – in particular, value capture – which extract signals from investors about the most valuable projects

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