.

Landowners sabotaged site value taxation by devolving it to the local level of government. Of course they would have preferred to have no property taxes at all; but the devolution to local governments was easier to achieve and far more resistant to subsequent Georgist reform. This was one of many ways in which landed interests deliberately conceded a little ground to the Georgists in order to avoid losing much more. Georgists could learn from these tactics.

1. CANNAN'S LAW

Many Georgists argue that the collection of site rents should be administered by local governments, and that the expenses of each higher level of government, if not fully defrayed by economic rents generated at that level, should be funded by surplus ground rents passed up from lower levels.

A paper by Mason Gaffney [1] exposes the futility of the bottom-up approach. Gaffney refers to two works by the British economist Edwin Cannan (1861-1935), whose argument may be distilled as follows [2]: If a local government collects site rent (or part thereof) and spends it on public services that are available to all comers, those services will attract immigrants from other local government areas (LGAs) due to freedom of movement within the country. As a result, locational decisions will be based partly on services instead of productivity, causing a loss of economic output. Meanwhile, local property owners will resent paying "taxes" for the benefit of newcomers. While the newcomers will raise rents and thereby help to defray the costs of the services they use, not all property owners will receive the extra rent in cash, and those who do will still complain. Moreover, some of the newcomers will be day-trippers from outside the LGA, or employers whose workers commute from outside the LGA, so that some of the associated uplifts in rent will be outside the LGA. Even those workers who actually settle in the LGA will tend to be poorer than the long-time residents and therefore will not drive up rents in proportion to their numbers. So parochialism will militate against high taxation of site values.

Gaffney further notes that rents per unit population vary widely from one LGA to another. If site value taxation is local, property owners in LGAs with low rent/population ratios will pay higher tax rates for the same level of service. This fact, quoted in isolation, lends credence to the otherwise bizarre claim that site value taxation is regressive. Moreover, rural areas tend to have not only lower rent/population ratios, but also lower values of LSREV (Land Share of Real Estate Value), than urban areas. Shifting a NATIONAL property tax off improvements and onto site values gives some relief to rural LGAs, whereas the same shift in a LOCAL property tax does not.

Cannan grudgingly concluded that if there must be a tax on site values, it should be national.

Between the lines, the message for landed interests was clear: If you want to sabotage site value taxation, consign it to the lowest level of government, so that (a) the above-mentioned problems limit the property tax rate AND undermine the case for shifting the tax off improvements and onto sites, and (b) the existence of a recurrent property tax at the lowest level of government can be used as an argument against any similar tax at a higher level. That is roughly what happened.

2. BACKBURNING TO THE GEORGISTS

As a firefighter facing an advancing front might burn off the grass on the windward side of a road, so the landed class, perceiving that a land tax was more dangerous at the national level than at the local level, and that the boundary between a national land tax and a local land tax was easier to defend than the boundary between a land tax and no land tax, made a strategic decision to promote something that they didn't like: a local property tax. This was not the only such decision.

Landlords, as high income earners, would regard a progressive income tax as undesirable in itself. Yet one of their favourite economists, Edwin R. A. Seligman, championed the progressive national income tax because it served as a political substitute for something that landlords feared more: a national land tax. Besides, income tax comes with a depreciation deduction which, in combination with overstated building values and understated site values, helps to compensate for the necessary evil of local property taxes!

Land speculators, as the chief beneficiaries of "capital gains" (an oxymoron coined by another neoclassical economist, Carl C. Plehn), would regard capital gains tax (CGT) as undesirable in itself. But CGT is tolerated because, by catching speculators in the income-tax net, it reduces the pressure for a much stronger measure against speculators, namely a holding tax on land values.

By itself, the inclusion of rental income in the income-tax base is detrimental to landlords. But it is the price of tax-deductibility for mortgage interest, which for many landlords outweighs the rental income. Moreover, it short-circuits any arguments for income tax on IMPUTED rent, which would bring speculators into the net.

By these compromises, any one of which could have been denounced as treachery, landed interests have secured their heartland and ensured that all skirmishes with Georgists will be fought over unimportant territory -- unless, perhaps, the Georgists make some strategic compromises of their own.

3. LOCALIZING THE GST

The Property Council of Australia thinks infrastructure should be funded by the GST. In Australia, infrastructure is primarily a State responsibility, and indeed GST revenue is reserved for the States. But that doesn't mean the States have anything to gain by actually spending the GST on infrastructure. By providing infrastructure, a State may generate more economic activity within its borders and thereby cause more GST to be collected; but the additional GST will be collected at the Federal level and distributed to all the States under a revenue-sharing formula, with the result that only a fraction of it will come back to the State that financed the infrastructure.

Another consequence of the revenue-sharing arrangement is that the States are not fiscally independent.

The Federal Parliament can solve both problems as follows:

• Turn the GST into a retail tax. This eliminates input credits, allowing different tax rates in different States without causing complications on the input-credit side. It also eliminates ambiguity as to the State in which the tax is collected; the point of collection is the point of retail sale.
  
• Collect GST in each State at a rate to be determined annually by the Parliament of that State, and return the revenue collected in each State to the executive government of that State. This does not amount to Federal discrimination between the States (which would be unconstitutional in Australia), because any differences between rates are decided at State level, not Federal level.

Of course it is also desirable to encourage LOCAL governments to spend more on infrastructure. To this end, the Federal Parliament could split the retail tax into two components: one for the States (as above), and one for local governments, the rate in each LGA being set by the local council, and the revenue collected in that LGA being given to the responsible State on the condition that the State passes it on to the LGA (cf. s.96 of the Australian Constitution). Then local governments would indeed be encouraged to spend more on infrastructure -- especially of the sort that would attract retailers (e.g. public transport hubs).

By devolving consumption taxes to local governments, one minimizes the number of people who share the loss due to tax evasion by any one of their number, and thereby maximizes the social pressure to pay one's lawful share of tax.

Localization of consumption taxes also puts downward pressure on the tax rates, due to tax competition between local governments. That aspect should be attractive to Georgists, who generally oppose consumption taxes. Local recycling of the benefits of infrastructure is also a sound Georgist principle.

Of course we Georgists would rather have no consumption taxes at all. But, in view of the above, and given that we lack the power to eliminate consumption taxes altogether, surely the next best thing is to devolve them to the lowest possible level of government.

4. REMOVING THE FIREBREAKS

If State and local governments could set their own consumption tax rates, how would they react? At State level, land tax would probably be retained because only a minority of voters are liable to pay it. But at the local level, the 2/3 of the voters who own property would gladly pay somewhat higher prices in order to eliminate their rate bills. So local governments would inevitably succumb to the temptation to eliminate rates. And at Federal level, a promise to force this decision on local governments would be a sure election winner.

So local rates would disappear, clearing the way for collection of site rent at the FEDERAL level -- the preferred level for Georgist purposes. And even this could be done in a politically safe manner (see e.g. http://localhost/working/paper02.htm).

NOTES

[1] M. Gaffney, "A Cannan Hits the Mark", AMERICAN JOURNAL OF ECONOMICS AND SOCIOLOGY, vol.63, no.2 (April 2004), reprinted in R.V. Andelson (ed.), CRITICS OF HENRY GEORGE (Blackwell Publishing, 2004), vol.2, ch.21.

[2] In "distilling" the argument, I have avoided claims that might be questioned by fellow Georgists. In particular, the argument that immigration divides the rent among a larger number of people or "dissipates" the rent due to a tragedy of the commons is not directly applicable when the "commons" consists of site rent, which tends to increase with immigration. The use of examples such as fisheries and oil revenues highlights the inapplicability to site rents.

[What follows is a subsequent exchange between Gavin Putland and Dan Sullivan regarding the above essay.Reprinted from the Land-Theory Discussion Group, 13 October, 2006]

GP: It seems that substantial revision is needed. But some criticism is due to misunderstanding.

DS: While some of the practical objections have merit, I strongly disagree with the characterization that land value taxes arose locally because Georgists wanted it that way.

GP: That's not what I said. I wrote: "Many Georgists argue that the collection of site rents should be administered by local governments..." Note the present tense.

DS: I also note that, as local taxes go, the cost differential between land value tax and income tax is greatest in the poor communities. In the wealthy Pittsburgh suburb of Fox Chapel, there are about 1400 owner occupants, only about ten renters, and a small amount of commercial property. Obviously, a shift from income tax to land value tax would save them very little.

GP: It seems to me that a shift from income tax to land tax must take place at a level of government that already has an income tax. In Australia, that means the Federal level only.

GP FROM THE ORIGINAL: Landowners sabotaged site value taxation by devolving it to the local level of government. Of course they would have preferred to have no property taxes at all; but the devolution to local governments was easier to achieve and far more resistant to subsequent Georgist reform.

DS: That is not what happened. When the Georgist movement was young, almost all taxing power was already at the local level.

GP: Mea culpa. I shouldn't have used the word "devolved", because it suggests that the "devolved" power was already being used at a higher level of government.

GP FROM THE ORIGINAL: As a result, locational decisions will be based partly on services instead of productivity, causing a loss of economic output.

DS: That is a very false dichotomy, and using abstract terminology covers how wrong it is. It begs the question of who will relocate into the land taxing community, and what the benefits are. For example, if building taxes are replaced with land value taxes, then both the quality and the quantity of buildings will improve, which is good for the local economy. If the income tax is replaced, the community will not only attract new residents, but will attract higher-income residents, who will also benefit the local economy.

GP: Yes. And again, in Australia, the income tax can only be replaced at the Federal level. This must be a common situation because, as you say, the general taxing power was devolved upward.

Concerning the "loss of economic output", perhaps it is better to argue in terms of incentives for governments to provide services. If the recycling of productivity through ground rents is done on a global basis, services will tend to be provided where they have the greatest effect on productivity -- whereas if the recycling takes place within LGAs, the decision of each LGA will be distorted by the leakage of benefits into adjacent LGAs. That means fewer services, hence less productivity.

DS: With local tax revenue, the community does what it wants to do, not whatever the state and federal government deigns to fund. Even the most casual study of municipal fiscal policy reveals that local governments will waste state and federal money rather than lose it, but are far more conservative with locally collected tax revenues.

GP: That's because they pay the political price for the tax. They still pay the political price even if they only set the local rate of a tax that is administered centrally and returned to the LGA from which it is collected.

DS: If we are going to cringe at the prospect of property owners complaining, we might as well quit trying and talk about football instead.

GP: Does political feasibility count?

GP FROM THE ORIGINAL: Even those workers who actually settle in the LGA will tend to be poorer than the long-time residents and therefore will not drive up rents in proportion to their numbers.

DS: Both experience and common sense show that this is patently false unless the services are targetted to the poor. All services increase rental value, no matter how they are paid for, and it is not the poor alone who will pay higher rents in order to get more services. The rich will be the first to pay extra to get better roads, better schools, better parks, etc.

GP: But not necessarily better public transport or public (as opposed to private) hospitals. If some services are preferentially used by the poor while others are used by all, the overall effect still favors the poor.

GP FROM THE ORIGINAL: Gaffney further notes that rents per unit population vary widely from one LGA to another. If site value taxation is local, property owners in LGAs with low rent/population ratios will pay higher tax rates for the same level of service.

DS: Higher tax rates, but not higher taxes.

GP: I'm referring to the politics of the situation -- not the logic of it.

GP FROM THE ORIGINAL: Between the lines, the message for landed interests was clear: If you want to sabotage site value taxation, consign it to the lowest level of government,

DS: Which, of course, is not what happened. The landed interests flat-out lost the battle at the local level, and so used their greater dominance at the state and national levels to shift the taxing power to those higher levels, knowing that the higher levels would never adopt land value tax.

GP: In other words, land tax was consigned to the lowest level of government, thus ensuring that it would make up only a small fraction of the total tax collected by all levels. Therein lies the sabotage. So where's the disagreement?

GP FROM THE ORIGINAL: 2. BACKBURNING TO THE GEORGISTS

As a firefighter facing an advancing front might burn off the grass on the windward side of a road, so the landed class, perceiving that a land tax was more dangerous at the national level than at the local level, and that the boundary between a national land tax and a local land tax was easier to defend than the boundary between a land tax and no land tax, made a strategic decision to promote something that they didn't like: a local property tax. This was not the only such decision.

DS: This empty assertion cries out for documentation. When have the landed interests promoted property taxation at the local level?

GP: Wasn't that Austin Chamberlain's tactic in the UK?

GP: The Property Council of Australia wants a flat property tax of 0.3% per annum. It is not clear whether this is meant to be at the local level or the State level, but it certainly isn't meant to be Federal.

GP FROM THE ORIGINAL: ... Yet one of their favourite economists, Edwin R. A. Seligman, championed the progressive national income tax because it served as a political substitute for something that landlords feared more: a national land tax.

DS: That is an entirely different thing. They promoted a national income tax, not to avoid a national land value tax, but to avoid land value taxes at any level.

GP: But for fiscal reasons, a national income tax is a more effective bulwark against a national land tax than against a state or local land tax. Surely they could see that.

GP FROM THE ORIGINAL: Besides, income tax comes with a depreciation deduction which, in combination with overstated building values and understated site values, helps to compensate for the necessary evil of local property taxes!

DS: This is argument by anacronism. The situation of overstated building values arose long after Seligman's support of income tax had faded into history.

GP: I didn't say this particular argument was Seligman's.

DS: Accepting one federal tax over another hypothetical federal tax, neither of which are land value taxes, has little to do with core assumption that we would have had fewer problems had we put all of our energies into a national land value tax.

GP: And at the national level, that's what I'm doing.

GP FROM THE ORIGINAL: By these compromises, any one of which could have been denounced as treachery,

DS: All of them *were* denounced as treachery by Georgists,

GP: Yes, but I mean by landed interests. Compromises that they might have regarded as treachery actually served their cause.

DS: The loss of land value tax has come because Georgists were seduced by delusions of national taxation generally, and particularly by the delusion that the income tax could somehow serve as a proxy for land value tax. Even Henry George saw through this, and his condemnation of income tax gives tragic irony to his son's co- sponsoring it.

GP: In Australia, the only income tax is at Federal level. If that income tax were replaced by land value tax, there would be no income tax in Australia. So where's our disagreement?

GP FROM THE ORIGINAL: The Property Council of Australia thinks infrastructure should be funded by the GST. In Australia, infrastructure is primarily a State responsibility, and indeed GST revenue is reserved for the States. But that doesn't mean the States have anything to gain by actually spending the GST on infrastructure. DS: BINGO! And neither would the states have anything to gain by spending a state land value tax wisely.

GP: If they spend LVT wisely, they'll raise land values and get more revenue without raising tax rates. That doesn't happen with GST. But it would happen to some extent if the GST were recycled locally.

GP FROM THE ORIGINAL: By providing infrastructure, a State may generate more economic activity within its borders and thereby cause more GST to be collected; but the additional GST will be collected at the Federal level and distributed to all the States under a revenue-sharing formula, with the result that only a fraction of it will come back to the State that financed the infrastructure.

DS: And the same is true of local governments. Under a state or federal land value tax, their taxing power will not be determined by how their own wise spending (on infrastructure or anything else) raises land values, but on some state or federal formula.

GP: True. The government that gets the tax is the one that has the associated incentive to invest in infrastructure.

GP FROM THE ORIGINAL: Another consequence of the revenue-sharing arrangement is that the States are not fiscally independent.

DS: RIGHT AGAIN! And neither would localities be fiscally independent under a state or national land value tax.

GP: I never said that a tax whose rate is set by one level of government can provide fiscal independence for another level.

DS: The retail sales tax was replaced by the GST because retail taxes are more easily evaded.

GP: Australia's GST replaced the WHOLESALE sales tax. The broad-based GST was supplemented by a very selective "luxury goods tax", which is a retail sales tax.

DS: As rates [went] higher, GSTs were replaced by VATS because GSTs were more easily evaded.

GP: ?!? Australia's "GST" is and always was a VAT. Europe's VAT replaced turnover taxes. Canada's "GST" is also a VAT but didn't displace retail sales taxes. What "GST" are you referring to?

GP FROM THE ORIGINAL: Of course it is also desirable to encourage LOCAL governments to spend more on infrastructure. To this end, the Federal Parliament could split the retail tax into two components: one for the States (as above), and one for local governments, the rate in each LGA being set by the local council, and the revenue collected in that LGA being given to the responsible State on the condition that the State passes it on to the LGA (cf. s.96 of the Australian Constitution).

DS: This makes no sense. The local government gives sales tax revenue to the state on the condition that the state pass it on (back, really) to the local government? Why not just let the local government keep it in the first place?

GP: Because of two peculiarities of the Australian Constitution: (1) only the Federal government can impose consumption taxes (which the High Court regards as excises); and (2) the Federal Parliament can make conditional grants to the States, but not to local governments (which are not mentioned in the Constitution). So if the Federal Government wants to make grants to local governments, it must go through the formality of making grants to the States on the condition that the States forward them to local governments. This is done.

The implication is that any de-facto State or local consumption taxes would have to be administered at the Federal level. This has the advantage that while the tax rate could vary from one place to another, the tax BASE could not, so uncertainty and administrative costs would be minimized.

DS: Retailers will quickly flee from local jurisdictions with high sales tax rates and flood into jurisdictions with low sales tax rates.

GP: So local jurisdictions have an incentive to minimize the sales tax rates. Implication: If you don't like sales tax but can't entirely get rid of it, devolve it to the local level.

DS: Every Philadelphia who has been to Delaware knows what I mean. Delaware, which has not sales tax and border's Pennsylvania, where the sales tax is rate 6%, is awash with shopping malls, while Pennsylvania has almost nothing within 15 miles of the Delaware border.

GP: So Pennsylvania has an incentive to cut its sales tax. Isn't that good?

GP FROM THE ORIGINAL: But, in view of the above, and given that we lack the power to eliminate consumption taxes altogether, surely the next best thing is to devolve them to the lowest possible level of government.

DS: If you can't eliminate them, you reduce them.

GP: Right. And what better way to reduce them than local tax competition?

GP FROM THE ORIGINAL: At State level, land tax would probably be retained because only a minority of voters are liable to pay it. But at the local level, the 2/3 of the voters who own property would gladly pay somewhat higher prices in order to eliminate their rate bills.

DS: OK, so tell me how it can be that 2/3 of the voters in each locality of a state can own property without 2/3 of the voters in the state also owning property. Go slowly, in case Einstein is listening from on high, otherwise you might make his celestial head explode.

GP: In Australia, local rates apply to almost all property owners, while State land taxes apply to a minority of them (residential owner-occupants being exempt).

Another possible interpretation of the question is: If 2/3 of the voters would pay higher consumption taxes to get rid of property rates at the local level, why would the same 2/3 of voters make the opposite decision at the national level? Answer: Because the national government could offer a more attractive quid pro quo, including

• a pay-as-you-go system for property tax, organized through the banking system or the social security system (both of which, in Australia, are national responsibilities), minimizing the need for "rate bills";
  
• Elimination of the tax that are chiefly responsible for compliance costs, namely income tax, which Einstein said is the hardest thing in the world to understand.

GP FROM THE ORIGINAL: So local governments would inevitably succumb to the temptation to eliminate rates.

DS: And suddenly local control, and a local dedication to infrastructure, which were so important earlier in this essay, are gone.

GP: Not entirely, because the locally-fixed consumption tax remains, as do local fees for service.

Also bear in mind that a national land tax is inherently local in the sense that, when the government spends money on infrastructure in a particular area, land values and hence tax receipts from that area increase. But with a local land tax, this process is disrupted by arbitrary lines on maps -- namely LGA boundaries.