Government and Institutions

Those who benefit from new infrastructure should pay for it

To many people’s relief, there were not many big ideas in Philip Hammond’s Autumn Statement last month. In so far as there was anything new, it was the widely-trailed extra investment in innovation, infrastructure and housing.

The justification for spending money on these things is that it will raise productivity and growth. There is no question that there are investment projects around that, if pursued, would provide a return that easily justified their risk. However, when deciding if the government should spend more money, there are other considerations.

The first is that the £5bn extra that will be spent on housing, infrastructure and innovation by 2020 could have been used to cut taxes. In our badly designed tax system, there are plenty of candidates for growth-generating tax cuts: Stamp Duty would be close to the top of the list.

Second, more government investment may increase productivity in theory, but it does not follow that actual government spending on investment will do so in practice. Indeed, even within the newly announced spending, there are some oddities.

By 2020, 30 per cent of the additional money will be allocated to a fund to provide infrastructure to facilitate new housing in areas of high demand. Why? In areas of high demand, the granting of planning permission can easily multiply the value of a piece of land 400 fold. In a reformed planning system, house builders should pay for their own infrastructure, as they once did when beautiful places like Bath, Eastbourne and large parts of Edinburgh were built.

A big chunk of the rest of the money will be spent on transport. Sadly, governments make bad choices when it comes to transport as decisions tend to be based on political considerations. In 2010, the coalition shelved three road schemes with very high benefit-cost ratios while it has gone ahead with HS2 which is much harder to justify. Actual government decisions do not bring the gains that theoretical government decisions are meant to yield.

We could do things another way. There are several mechanisms we could use to bring private finance into government infrastructure projects that could lead to better decision-making.

But, it is often argued that there are benefits that the private sector might not take into account such as the gains from local regeneration that transport infrastructure might bring. The new Cambridge-Milton Keynes-Oxford railway, to which Hammond has pledged support, is a good example. If this project is successful, it may raise economic activity in the surrounding areas such as Bedford. Surely, this justifies a subsidy?

However, the major beneficiaries of all these spillovers will be the local landowners who will move from being very rich to being incredibly rich as land values rise. As beneficiaries, should they not contribute towards the cost of infrastructure development and, if they did, would we not get better, less politicised decisions?

There are lots of ways this could happen. Local landowners could offer to finance the infrastructure as happened in the late nineteenth century with some commuter railways. Or the railway or road building company could buy and develop adjacent land, using the rise in its value to partly fund the cost of building the infrastructure – as the Midland Railway Company did with the iconic St Pancras hotel.

Alternatively, government could levy a tax on any rise in land values which is the direct result of infrastructure development – especially where planning permission is given for new development around road and rail links. This would best be done through a localised tax system.

If those who benefited from more infrastructure paid for it, there would be better decisions and a fairer distribution of costs. The users of the Oxford to Cambridge railway and the local landowners who benefited from it would foot the bill instead of the citizens of Newcastle and other places miles away.


This article was first published in City AM.

Academic and Research Director, IEA

Philip Booth is Senior Academic Fellow at the Institute of Economic Affairs. He is also Director of the Vinson Centre and Professor of Economics at the University of Buckingham and Professor of Finance, Public Policy and Ethics at St. Mary’s University, Twickenham. He also holds the position of (interim) Director of Catholic Mission at St. Mary’s having previously been Director of Research and Public Engagement and Dean of the Faculty of Education, Humanities and Social Sciences. From 2002-2016, Philip was Academic and Research Director (previously, Editorial and Programme Director) at the IEA. From 2002-2015 he was Professor of Insurance and Risk Management at Cass Business School. He is a Senior Research Fellow in the Centre for Federal Studies at the University of Kent and Adjunct Professor in the School of Law, University of Notre Dame, Australia. Previously, Philip Booth worked for the Bank of England as an adviser on financial stability issues and he was also Associate Dean of Cass Business School and held various other academic positions at City University. He has written widely, including a number of books, on investment, finance, social insurance and pensions as well as on the relationship between Catholic social teaching and economics. He is Deputy Editor of Economic Affairs. Philip is a Fellow of the Royal Statistical Society, a Fellow of the Institute of Actuaries and an honorary member of the Society of Actuaries of Poland. He has previously worked in the investment department of Axa Equity and Law and was been involved in a number of projects to help develop actuarial professions and actuarial, finance and investment professional teaching programmes in Central and Eastern Europe. Philip has a BA in Economics from the University of Durham and a PhD from City University.

5 thoughts on “Those who benefit from new infrastructure should pay for it”

  1. Posted 08/12/2016 at 10:08 | Permalink

    If we had a tax system related to land value then what you say can be at least partly addressed.

    As for funding infrastructure projects, large ones like Heathrow simply wouldn’t happen without the government being involved, and land being compulsorily purchased. Small projects like private housing could and should be encouraged to be exactly that, private. The UK is unusual in having its new housing stock mostly built by builder/speculators. And this is partly because of difficulties obtaining land and getting planning permission. The latter is a complete nonsense, of course, as we know that a government project can plough through historic buildings, green belt and ancient monuments while the private homeowner can’t even remove a tree or build a wall without consent.

    But in short, I agree.

  2. Posted 09/12/2016 at 03:36 | Permalink

    Unaffordable housing, and the injustice of freeholders reaping what they did not sow, are both symptoms with the same root cause.

    Not one politician or economist has the guts to address this, instead laying the blame on planning, lack of supply, stamp duty or any other such nonsense.

    With the correct framework of property rights, and thus taxation, the market is able to fairly and efficiently allocate resources. So unless the scarcity value derived from resources not supplied by human effort ie Land, are equality shared the symptoms will be economic and social dysfunction.

    Treating symptoms is easy. Tackling root causes takes some guts and integrity.

    If a tax on the rise in land values is good then surely a 100% tax on its rental value is best? They would after all drop the selling price of land to zero, and that of housing to their capital only constituent. Isn’t that supposed to be the aim?

  3. Posted 09/12/2016 at 13:11 | Permalink

    Wouldn’t cutting stamp duty simply encourage another increase in house prices rises? Do we want that?

  4. Posted 09/12/2016 at 19:51 | Permalink

    Not necessarily significantly. However, in an earlier CityAM article I proposed abolishing all current property taxes and replacing them with more coherent taxes which would be the same in total.

  5. Posted 10/12/2016 at 13:02 | Permalink

    According to the IEA, land rental values for housing in the UK is £75bn. Minus Council Tax and SDLT leaves around £32bn to be capitalised into rental incomes and selling prices (as the incidence of direct taxes on immovable property falls on the most inelastic factor first).

    According to Savills average UK house prices are £219K (ONS puts this at £284K) which gives them a total figure of £6.2trn. From which location values make up two thirds of, on average, of that total according to numerous studies, including those by Hilber/Cheshire of the LSE which the IEA regularly cite.

    So £32bn gets capitalised into £4tn. A return of 0.8% which is odd given rental returns in the UK average out at 5%.

    So if SDLT were scrapped, according to IEA figures, this would put selling prices up by £1.6trn or 25%.

    Which is significant in my opinion. However, seeing as two thirds of rental values at 5% gives us a those for location only at £200bn per year, rather than £75bn, it’s likely cuts in SDLT will not see such huge increases in selling prices.

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