From yesterday's City AM (I can't find the article online so I've scanned it in below):
More than 10m sq ft of City offices is sitting empty in the financial district, the largest amount of unfilled space for five years. This is equivalent to 20 Gherkin buildings, and is putting severe downward pressure on rents and the profits of property companies, according to a survey...
Property firms are facing a growing pressure to lease the glut of empty offices at knock-down rates rather than pay taxes under the "empty property" scheme, which in some cases could be the equivalent to 40 per cent of the rent.
Activity is creeping back into the market as a result Recent deals include 20 Gracechurch Street and Bank of Tokyo Mitsubishi leasing the British Land Ropemaker building. But due to the sharp plunge in property values, British Land missed its initial rent target of £53 per sq ft on the latter deal, agreeing to $46.50 per sq ft plus a 48 month rent free incentive equivalent to just £41.82 per sq ft.
The tax they are talking about is Business Rates, which is a tax of about 40% of the market rent net of rates (so really it's about 28% of the gross rent) that a tenant would have to pay. In a rare outbreak of commonsense, the UK government scrapped an old exemption that said Business Rates would be reduced if the building was vacant.
The economically illiterate (i.e. most opposition politicians) claim that this increases the tax burden on business activity. Nope:
1. Owning an empty building is not really an 'activity' is it?
2. Rents (payable to the landlord, especially that element that relates to the 'location' rather than the physical building) and taxes (payable to the government) are much the same thing, as ultimately they are both a proportion of profits payable to a third party who plays little part in generating those profits.
3. As we see from the above example, scrapping a tax exemption for vacant buildings leads to lower rents payable by active businesses, as well as higher occupation rates (it appears that without the tax, landlords would have been more likely to leave properties vacant), hence more business activity, more employment etc.
The point being, unlike most taxes based on turnover, incomes or profits (which have deadweight costs - they depress business activity and/or drive it abroad etc) taxes on property have, if anything, a beneficial or at worst neutral impact. My main issue with Business Rates is that it is levied on buildings rather than just the land/location value, so there are stories about developers ripping down cheaper vacant premises to avoid the tax - it would be better to have a higher rate of tax on just the land/location value and exempt the buildings value, but that's just details.
Friday, 10 April 2009
It's not just idle theory (2)
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27 comments:
I'll do my bit and give credit to the government where it's due as well.
I believe that the Act which reduced the scope of empty property rate relief also contained a provision which allows the Valuation Office to disregard the impact of changes to buildings if they were carried out to deliberately reduce the value of the property.
As you say, it's a poor substitute for a tax which disregards buildings altogether, but at least it limits the incentive for roof removal.
Mark, You are absolutely right that the removal of the exemption for vacant property encourages landlords to re-let, at lower rates if necessary, and therefore encourages economic activity. My company is looking to expand its depots for storing and supplying wood pellets, and we have seen rents fall by as much as 50% in the last few months.
On the other hand, that same experience demonstrates that Business Rates (similar in concept to a LVT, as you are hinting) is not a free lunch, and can be very harmful to economic activity. Wood pellets aren't very different to other bulk commodities, so I hope the experience is reasonably illustrative.
The price we can charge depends significantly on the competition - not just other suppliers of wood pellets, but alternative heating fuels, as part of the calculation is the price at which the market expands or shrinks. The margin between the price that one can buy pellets from producers and the price at which one can sell them is around 60% of the purchase price. We have costs of haulage and handling from producer to depot, costs of storage, costs of haulage and handling from depot to customer, maintenance, repair, replacement (i.e. depreciation) and overheads. The cost of storage is a significant part of that. Without Business Rates, the operating margin is down to a few per cent, as you would expect in a competitive market. Business Rates may only be a modest percentage of the whole, but they are a massive percentage of the margin (in fact, turning it from modestly positive to significantly negative), making it impossible to justify expanding the business, or at least driving us towards different, less dispersed models that reduce the economic benefit to the communities that would otherwise have had the depots.
And that is at current rates, where Business Rates/LVT is set at a level where it contributes roughly 25% (via the Treasury) that goes to local-government spending, which itself is a relatively small proportion of overall tax and spending. Imagine the effect if we relied on LVT for more of our tax revenue.
I'm sorry, but LVT, other than at very modest levels, is a thoroughly toxic idea. In my opinion, Business Rates should be set at a level that has nothing to do with the nominal value of the land, and everything to do with the community's valuation of the external costs and benefits of the activity, arrived at (for new business activities) by negotiating the rateable value as part of the planning process, or (for existing business activities) enshrining current valuations.
And by the way, at those properties where rents have fallen dramatically, Business Rates valuations have not fallen accordingly, as is hardly surprising for a tax mechanism based on valuations by the authorities (who themselves are desperate for money at exactly the time that they need to be allowing values to fall). This sort of tax represents a significant impediment to valuations moving to market-clearing levels, and therefore to economic correction and recovery.
BGP, It's a good worked example, but haven't you contradicted yourself?
"Business Rates should be set at a level that has nothing to do with the nominal value of the land, and everything to do with the community's valuation of the external costs and benefits of the activity, arrived at (for new business activities) by negotiating the rateable value as part of the planning process, or (for existing business activities) enshrining current valuations."
1. Remember that BR or LVT would ideally be a flat % of capital or rental values.
2. BR/LVT would also ideally be based on current market value (so I agree with your final paragraph), but what is market value other than "the community's valuation of the external costs and benefits of the activity"? If a coal merchant can make a higher profit using the same warehouse/land than a wood-pellet merchant, then he is meeting the community's needs more efficiently and hence can out-bid you on the rent (or purchase price).
3. Land and buildings are in fixed supply in the short or medium term, hence supply is price inelastic, hence a tax on capital or rental values is borne by the landowner, not the tenant (an owner-occupier has two hats for these purposes), see the Wiki link in my LVT supporters widget.
4. This is not idle theory either - successive UK governments have experimented with BR-free zones and all that happened was that rents went up by the amount that BR was cut. (same thing with Stamp Duty exempt zones - selling prices just went up). Neither of these increased actual business activity.
5. i.e. if your particular business model and say, we'd be profitable if we only had to pay £10k rent but the £4k BR tips us into a loss, you might persuade the council to declare it a BR free site. But if they did this, the landlord would just put up the rent to £14k (knowing that your rival, the coal-merchant can afford to pay at least £14k). The wood-pellet business would always be out-bid by the coal merchant.
6. See also my real life example of the hot dog vendor.
7. The taxes that put marginal businesses out of business and cause most unemployment are VAT and Employer's NIC. Those are the taxes we should get rid of first.
8. Sure, high rents can put some businesses out of business (e.g. Woolworths) but that's only because Woolworth's landlords know that they can re-let for a higher rent to a more profitable business like Tesco Metro. If the community (shoppers, investors and employees) value a Tesco Metro more than a Woolworths, then rents themselves have no deadweight costs. And as I have shown, BR/LVT has no deadweight costs either.
bgprior: On the other hand, that same experience demonstrates that Business Rates (similar in concept to a LVT, as you are hinting) is not a free lunch, and can be very harmful to economic activity.
I'd say the opposite is the case. The only thing which would be economically harmful would be having land kept idle when it has a permitted industrial use. The only way that can be caused by the tax system is by either providing tax breaks for keeping land idle, or setting the tax so far above the rental value that land is abandoned. The presence of empty industrial property, when Business Rates are less than 100% of rental values, indicates that the real economic harm at the minute is due to rates being too low, rather than too high.
Paul,
I don't think you have understood my point at all. It isn't the experience of prices being driven down I was referring to, but the experience that BR at current rates (let alone if it were made heavier because of misguided belief in LVT to reduce the burden of other taxes) deters business activity.
BGP, Paul and I both understood your point. You just have to accept that ...
1. The total rents (actual rent plus BR) that a tenant can pay is a known figure, it depends on the profitability of the business.
2. At whatever site or building, the tenant with the highest potential profit can afford to pay the highest total rent (actual rent plus BR), and so he will win the tenancy. Thus, for a given amount of available business premises (yes, illiberal planning laws restrict this severely, different topic), high rents (i.e. market rents) do not reduce business activity, they merely ensure that the most profitable businesses survive and the less profitable don't.
3. The simple fact that legally, the BR is payable by the tenant obscures the fact that the BR is economically borne by the landlord (see Wiki link I referred to above).
4. Ergo, BR is no different to the income or corporation tax that a landlord pays.
5. For example, some landlords do not pay income or corporation tax on rental income (because they have high interest costs, or because they are pension funds or because the landlord of a particular site is Crown Estates or Church Commissioners). However, the non-tax paying landlords charge the same rents as taxpaying landlords. The landlords tax bill CANNOT be passed on to the tenant.
6. The logic is, if the government reduced BR (or LVT or site value rating or income/corporation tax on rental income) this does not benefit the tenant/productive business by one penny, because reductions in BR merely lead to an increase in the rent that the tenant pays to the landlord. The total rent is a FIXED AMOUNT.
TR = R + BR!!
If BR goes down and TR is a constant, then R must go up (and it does - there are countless examples of this).
7. In an ideal world, increases in BR would be used to cut the tax bill on productive business of course, that's the other half of the equation...
BGP, in addition to what Mark said, I'd like to directly address your idea that "BR at current rates ... deters business activity."
The example you gave was one where BR might appear to deter your business activity, but that isn't the same as BR detering all business activity. So long as someone can afford to use the land, the tax can't be detering business activity. It may sound harsh, but it doesn't matter if you are priced out of using a given plot of land, it only becomes a problem if everyone is priced out.
Mark,
1. What's that got to do with the price of fish?
2. It's pretty much the definition of externalities that they are costs or benefits whose value is not taken account of in the market value. If they were within the market value, they would have been internalized and therefore not be externalities any more.
3. I don't see the relevance or the logic. Let's say that supply of commercial property is in fixed supply in an area in the medium-term. If demand increases, values go up and (in your model) BR/LVT goes up too. Why won't the landlord put up his prices?
One thing does follow from this, however. If a council wants to increase the revenue from the BR/LVT, it should refuse all planning applications, to throttle supply, so values go up and so does the BR/LVT. I don't see any mechanism that gives councils a greater incentive to refuse planning than they already have as a very good idea.
4. Let me see if I understand this. There are two towns near each other, where businesses each pay roughly similar BR. Then the government decrees that businesses in one of the towns don't have to pay BR. So that town gets quite popular as a business location, and rents go up until it's again roughly as expensive to be based in one town as the other. And we are supposed to infer from this that, if the government had scrapped BR in both towns, rents would have gone up just as much in both? You don't think it's relevant that the government had created enclaves with a monopolistic tax advantage?
And tell me, was local government funding in the BR-free zone adjusted to reflect the lower tax-revenues? Or did the government insulate the privileged communities through central collection and disbursement, so they still got pretty much as much money as the neighbours?
What do you think would have happened if the consequence of being made BR-free had been a 25% reduction in money available for local services? Would the roads have been worse? Would there have been fewer police and consequently higher crime? Fewer amenities? etc. And would rents in the area have been as high as the neighbouring areas as a result?
You want me to see this as some sort of laboratory that proved that economic black is white? If you want to do a scientific experiment, you need to isolate the factors under examination. That's pretty difficult in real life rather than in a scientific laboratory, and certainly not what happened here.
5. But what if we're not competing with a coal merchant? What if we are competing with electricity, gas and oil suppliers (which is much more common)? They don't need stores like us. So the choice to tax land value on which business is conducted rather than something else (revenue or profit?) distorts the market in favour of certain options which have significant infrastructural requirements but do not obviously occupy a piece of land in the same way. Of course, they still take up quite a bit of land, but in the case of gas, it's not so visible because it's mostly underground, and in the case of electricity, the pylons are pretty visible but have tiny footprints. And in any case, they mostly neither own nor pay rent on the land across which they pass. How are you proposing to value these for the purposes of LVT?
And this accepts your starting fallacy, which is that the rent on a piece of land is determined by what we and our competitors in the heating market are willing to pay. Actually, the rent is determined by what any potential tenant is willing to pay. It is quite possible that both we and the coal-merchant would be outbid by someone who has nothing to do with energy. And it is also possible that a coal-merchant may not want a depot where we want one. And this doesn't even get into the question of where you owner/occupier, or where land is re-zoned, changing its nominal value. Too many assumptions. But at the end of the day, you can't get round the fact that higher costs of occupation will prevent marginal activities from being conducted that otherwise would have been.
6. I notice particularly the Anonymous comment from 1 Feb at 13:46. I think that demonstrates the difference between public tax and private rent rather nicely. Come on Mark. You don't believe that governments are rational and immune from abusing their position, do you? Do you really think that voluntary valuation between buyer and seller or landlord and tenant is the same thing as valuation imposed by authority? It doesn't sound like you.
7. Different taxes have different effects. NI is a tax on employment and therefore deters the use of labour and encourages efficiency and automation. It doesn't put businesses in general out of business, it puts high-labour businesses out of business and encourages low-labour businesses (and the businesses that supply the equipment to reduce the labour, or, to put it another way, increase the productivity). Don't think from this that I like NI. But understand that I dislike it because it is distortionary, not because it is generally inimical to business.
BR/LVT is a tax on property/land values and therefore penalises businesses that either need a lot of land or that use high-value land (even if the value was created by themselves). It therefore deters these sorts of businesses, and encourages businesses that have low land requirements (or more precisely, where cost of land required is a relatively small proportion of total costs).
VAT is a tax on consumption, and therefore (unusually for a tax) falls on almost everything, and proportionately (if it weren't for differential rates and exemptions) to the value of the goods or services being exchanged. It is the least distortionary of the taxes, and should therefore be used for a greater proportion of tax revenues. Given that we are just recovering from a consumption boom and savings dearth, and the recent VAT reduction is widely recognized to have had so little effect, I have difficulty believing that current rates of VAT are the greatest impediment to the economy and that lower rates would have a huge benefit.
8. Have you been down many high streets recently? Does it strike you that the landlords of Woolworths, Zavvi and the rest were right to believe that they could hold out for better rents? Or have you noticed that quite a lot of shops have been boarded up for a while now? I can tell you that there has been a wide variety in the extent to which the landlords we have spoken to have recognised the changed economic conditions. Some of them have cut dramatically, but others are still unrealistic.
And anyway, that's rent, and "as I have shown", rent and tax are not the same thing. The landlord has rather less authority and scope for arbitariness than the government has. As the high streets demonstrate, landlords aren't always responsive or well-informed, but you can bet they are a darn sight more well-informed and responsive to changing economic conditions than is the government.
I'll tell you what we need instead of a LVT. We need a stonking Tobin tax, and a good hike in stamp duty on share transactions. After all, it wasn't landholders who caused the current problems. It was a combination of the government and the financial services industry. And if you are trying to reduce the burden on businesses, a LVT will fall more heavily on more businesses than a Tobin tax and stamp duty on share sales.
Or should we be careful about the unintended consequences and ignored victims of ideas like these?
Mark, Paul clearly doesn't understand the point, because his comment referred to the question of land being idle (e.g. "the only thing which would be economically harmful would be having land kept idle when it has a permitted industrial use"), which I had started by acknowledging was a benefit of the changes to BR, but which had nothing to do with my argument why BR/LVT is a bad idea. Or alternatively, he understands it, but chose to address points other than the ones I made.
Paul,
Let's try a reductio ad absurdam. Let's say that business rates go up from around £2/sq.ft. to £200/sq.ft. Are you telling me that this will have no net effect on business activity? That all property will remain let and as much business will be conducted as before? Or do higher costs have a displacement effect, and the way that this displacement effect works is to make marginal businesses uneconomic?
Mark, For the sake of clarification, my post of 23:36 was in reply to your post of 15:01, and refers to the numbered points in that post and not the subsequent one. I didn't see the new posts until I had submitted that one.
BGP, I understood the point and addressed it.
Your point was "Business Rates (similar in concept to a LVT, as you are hinting) is not a free lunch, and can be very harmful to economic activity."
My point was, so long as land isn't being abandoned it isn't. You might be priced out of using a specific plot of land, but if somebody else is prepared to pay the asking price to use it, then it isn't harmful to economic activity.
That is unless that is is some reason you can give why your use of the land is inherently more economically valuable than that of another business which is able to outbid you in the property market.
bgprior, to respond to your 23:56 post:
"Let's say that business rates go up from around £2/sq.ft. to £200/sq.ft. Are you telling me that this will have no net effect on business activity?"
No, I am saying that, if the rental value of the space is less that £200/sq.ft, it will have no negative impact. If nobody is prepared to pay £200/sq.ft. to rent the space, it will depress economic activity. However, if just one person is prepared to pay £200/sq.ft., it doesn't matter that everybody else is priced out of the market. If there is still business activity on the land, then it clearly hasn't suppressed it.
"That all property will remain let and as much business will be conducted as before?"
No, I am not specifying the level at which all property will remain let, I am saying that LVT can only suppress the amount of business conducted if it is set so high that no one can afford to hold on to the property. As we don't currently have landlords abandoning land, I don't think we're anywhere near that stage yet.
I imagine you will respond to that last point by saying that LVT should always be a fraction of the rent and never exceed it. I had not replied to Paul's earlier point along this line, so let's deal with that.
Paul maintains that empty properties are a sign that BR is too low. Let's ignore for now the important economic service that empty properties perform (can you imagine how static an economy would be if every business property were in use?).
The logic is presumably that, if you set BR high enough and make it payable whether or not a property is in use, you drive landlords to let it at whatever price they can get.
But what if we have had a boom and a growth of businesses that are uneconomic in the subsequent bust, and properties to house them? What makes you think that business will expand in a slump to fill all these properties so long as the share of the tenant's property costs received by the landlord, rather than by the taxman, is sufficiently low? Is it not conceivable that there may be simply less business that can be conducted profitably than there is space? In fact, isn't this pretty much one of the characteristics of a slump?
What you need, in that situation, is not for the landlord's revenue to go down, but for the total cost to tenants to go down. To achieve that, would it be better for BR to go up or down?
Now let's imagine that you have implemented this system. Landlords know that they will be caught in a vicious pincer movement in a downturn. Will this discourage them from developing their land as demand grows in the upturn? And will that ensure that the market for commercial property is always under-supplied, relative to what it otherwise would have been? And will that result in rents being higher than necessary, and suitable locations being scarcer than necessary? And will that result in some otherwise viable business activity again being deterred?
Unintended consequences. The LVT concept is riddled with unintended consequences, and all of them negative.
Paul,
"Your point was "Business Rates (similar in concept to a LVT, as you are hinting) is not a free lunch, and can be very harmful to economic activity.""
I then went on to explain why. You didn't address any of the reasons I gave, and instead focused on the separate point about encouraging occupancy. That is only a small part of the picture, and even that (if you see my comments above) is a double-edged sword.
"Let's ignore for now the important economic service that empty properties perform"
They don't provide any service. They are, by definition, economically inactive. Your initial point was that you might be priced out of using a property, so this comment seems a bit contradictory.
"The logic is presumably that, if you set BR high enough and make it payable whether or not a property is in use, you drive landlords to let it at whatever price they can get."
True.
"Is it not conceivable that there may be simply less business that can be conducted profitably than there is space? In fact, isn't this pretty much one of the characteristics of a slump?"
No, of course not. Put a commercial property up for rent at 1p per month and invariably somebody will rent it. The problem, as per your previous comment, is that landlords don't want to make big cuts in rent.
"What you need, in that situation, is not for the landlord's revenue to go down, but for the total cost to tenants to go down."
That's a reasonable point.
"To achieve that, would it be better for BR to go up or down?"
As it stands at the minute, I'd say up. I know that might sound counter-intuitive, but at the minute, landlords with an empty property might decide to sit it out, rather than rent a property out for less than they could have got last year, on the off chance that rents might go up again. If sitting on empty property becomes more expensive, landlords are more likely to cut rents to get tenants in, or sell the property altogether.
"Will this discourage them from developing their land as demand grows in the upturn? And will that ensure that the market for commercial property is always under-supplied, relative to what it otherwise would have been? And will that result in rents being higher than necessary, and suitable locations being scarcer than necessary? And will that result in some otherwise viable business activity again being deterred?"
If we're talking about LVT, then no on all counts.
Doesn't the case of the owner/occupier illustrate the case against?
In this case, the business feels the effect of higher BR simply as a higher tax. You may like to describe that as simply transferring some of the rent they were paying themselves from themselves to the taxman, but I don't think that diminishes the economic impact in any way. Those owner/occupiers whose margins were less than the increase in BR go out of business, however you like to dress this up.
Perhaps you hope that another business will buy the property (at a lower valuation) and preserve the net economic activity. But that (a) is by no means guaranteed, and (b) you have anyway destroyed an otherwise viable business, which could have continued if BR had been lower or adjusted downwards to take account of the falling value of the property.
If you think that governments will anticipate this and adjust BR downwards before businesses in this situation go bust, you are kidding yourself. They may have little in the way of an adequate yardstick to assess what the rental or capital value of the property now is. And they will err on the side of aggression, as every taxman always does.
I can't believe you want to hand this sort of arbitrary power to government (central or local), and are willing to assume that they will always be reasonable and well-informed.
BGP "I can't believe you want to hand this sort of arbitrary power to government (central or local), and are willing to assume that they will always be reasonable and well-informed."
That's the beauty of it! It's trial and error! See also your point 3 from yesterday 23.29:
"One thing does follow from this, however. If a council wants to increase the revenue from the BR/LVT, it should refuse all planning applications, to throttle supply, so values go up and so does the BR/LVT. I don't see any mechanism that gives councils a greater incentive to refuse planning than they already have as a very good idea."
OK, let's imagine you're running one local council and you follow this strategy. Paul and I, who happen to be running the neighbouring councils, would be absolutely delighted at this - because we would just grant more planning permission so that in the end all the businesses migrate to us.
So, your policy quite clearly was neither "reasonable nor well informed" and voters would kick you out.
To your point 4, of course the government continued subsidising councils which were BR free zones. That's how BR works - collected locally, pooled nationally and then handed out to councils per capita.
Mark,
"That's the beauty of it! It's trial and error!"
Haven't we had quite a lot of government by trial and error already? How about government from sound principles?
"OK, let's imagine you're running one local council and you follow this strategy. Paul and I, who happen to be running the neighbouring councils, would be absolutely delighted at this - because we would just grant more planning permission so that in the end all the businesses migrate to us."
Whether you can get elected and stay elected depends on your and your voters' incentives.
One change that you are assuming in this, and I explicitly call for, is repatriation of rates. That is the necessary but not sufficient condition for your corrective to work. If rates are not repatriated, you haven't got a hope, because your electors will incur the costs but not the benefits of your decisions.
Repatriation is the most significant factor in creating policy competition between councils, not the precise manner of calculating the impositions on businesses. But even in a repatriated system, the incentives differ according to the mechanism adopted for business taxation.
In my system, the cost of BR to businesses is fixed and the value of BR to the local authority is fixed (to be precise, they could alter it by mutual agreement, for instance if the alternative is the closure of the business or the cutting of essential services, but both sides are assured that the rate cannot be changed unilaterally). Approval of additional commercial property development may reduce the value of existing property, but it has no bearing on the cost/value of BR. And, because the rateable value is part of the planning negotiations, new approvals increase the authority's revenues from BR, which either increases their revenues for public services or reduces the level of other taxes (on income, domestic property or sales, for instance, depending on system). That translates into a strong public-choice incentive to approve any development where the value of the BR exceeds the negative social (and political) costs, regardless of what other authorities do. That should create conditions for positive competition between authorities. It's similar to what already happens in Switzerland, where someone like Michael Schumacher can go round the various municipalities, negotiating the level of tax he will pay. The Swiss, as usual, have it right, and the result is a low-tax economy.
Your system creates a prisoner's dilemma, where the incentives are weighted strongly in favour of cooperation/collusion by the authorities. If one authority permits more development and others in the region don't, the increased supply will drive down values and therefore per-unit values of BR in the wider region, but (as you say) that will be compensated to some extent for the permissive authority by the increase in number of units. Whether the value of the increased number of units exceeds the cost (to the authority) of the reduced value per unit will depend on the current balance of supply and demand and the price-elasticity of demand. I suspect the marginal nature of economics means that an increase in supply of 1% of the total volume (which may be an increase in the volume of available units of 10% or 50%) will have an impact of more than 1% on the price, so generally even the permissive authority will lose, but let's say that price-elasticity is high so a small change in volume produces only a small change in price. Even so, the other, less permissive authorities have clearly lost out, and the permissive authority has only improved its financial position by a bit. And the permissive authority has to explain to its electorate why it is permitting development that other authorities will not. If, on the other hand, none of them permit development, then they are all winners, as values (and therefore LVT) go up. And if several of them permit development, then the likelihood increases that the impact on values will exceed the benefit of the additional units, and they all lose. Clearly, the winning strategy, by a mile, is to cooperate/collude to refuse development. And as that is aligned with the political incentive (in the absence of a clear correction of these incentives, such as in my system), and only an optimist would believe that politicians and civil servants won't try to game the system to their advantage, it's fairly clear which way this would pan out.
"To your point 4, of course the government continued subsidising councils which were BR free zones. That's how BR works - collected locally, pooled nationally and then handed out to councils per capita."
Yes, I know. That was my point. This is a long way from providing evidence to support your views, when the current system is so obviously skewed to produce the results you describe. If our system operated so that BR takings directly affected local-government revenue, then services in the BR-free zones would have been badly hit, and rents could have been expected to have remained below the level in the neighbouring areas. This is demonstration only of the perverse incentives embedded into our current system, and enhanced by every government action, such as the creation of BR-free zones.
BGP: "Those owner/occupiers whose margins were less than the increase in BR go out of business, however you like to dress this up."
Even if that were true for one individual business, you are only looking at one side of the equation. For a given level of tax revenue, if it hadn't been taken by BR, it would have been taken by another means such as income tax or VAT, which do genuine economic damage. As land is in fixed supply, taxes on it don't suppress activity in the same way. Tax income or sales and you reduce the level of income or sales, but you can't reduce the amount of land by taxing it.
"...Perhaps you hope that another business will buy the property (at a lower valuation) and preserve the net economic activity. But that (a) is by no means guaranteed, and (b) you have anyway destroyed an otherwise viable business, which could have continued if BR had been lower or adjusted downwards to take account of the falling value of the property."
Or, to put it more accurately, one business has been replaced by another more efficient business which is prepared to pay more to use the land because it uses it more profitably. I don't see that as a bad thing, especially when compared to the effects of the alternative taxes.
"If you think that governments will anticipate this and adjust BR downwards before businesses in this situation go bust, you are kidding yourself. They may have little in the way of an adequate yardstick to assess what the rental or capital value of the property now is."
Personally, I'm in favour of an LVT system where the landholder always has the option of self-assessment, so that wouldn't be an issue.
As for your idea of repatriating rates, I would support it if and only if all expenditure were funded locally rather than nationally. For example, at the minute, if a motorway is built, it is funded from national taxation, but the areas close to the motorway enjoy the economic benefits. BR goes some way to balancing out geographical spending imbalances by ensuring that, if my tax is spent building infrastructure at the other end of the country, I enjoy some of the economic benefits when property values in that area begin to rise.
BGP "Haven't we had quite a lot of government by trial and error already? How about government from sound principles?"
There are plenty of people - from Adam Smith via Ricardo, Tom Paine, Henry George, Churchill all the way to Milton Friedman who preached sound economic principles - who all said that LVT (or BR or Site Value Rating) is The Least Bad Tax, and my original post highlighted one of many facets to this.
You have told me (and Paul) that our ideas are rubbish and suggest that 'your system' would be much better. The key to your system appears to be that
"... new approvals increase the authority's revenues from BR, which either increases their revenues for public services or reduces the level of other taxes (on income, domestic property or sales, for instance, depending on system). That translates into a strong public-choice incentive to approve any development where the value of the BR exceeds the negative social (and political) costs, regardless of what other authorities do."
Again, that has long been part of the MW manifesto (and I suspect in PL's manifesto as well), with the provisos that:
a) The tax does not just apply to new approvals, it applies to all land - there's no need for a system for new approvals, change of use permission etc, as these are best decided by the markets and not behind closed doors, and
b) The same tax at the same rates would also replace all taxes on domestic property values (be that Council Tax, SDLT, Inheritance Tax, capital gains tax, whatever)
So assuming the owner of any particular site has the freedom to put it to its most profitable use (be that residential OR commercial or anywhere in-between, and to hell with planning restrictions except in extreme cases), the markets would give the optimum mix between residential and commercial uses - the tax would embed the concept of 'notional costs' in people's decisions. I'm sure you know what 'notional costs' are, if not, I'm happy to elucidate.
OK. Let me see if I can illustrate what I mean about a system of local business taxation that internalizes the local externalities.
The owner of a piece of land has a number of preferences for what is done with that land. Maximising value will be a significant, though not the only one. The owner, in deciding what development to pursue, will decide how much of a trade-off he is willing to make between maximising the value and encouraging uses he prefers. A pig-lover, for instance, may choose to accept a lower value for use of the land for raising pigs, than for developing a sewage works on it. On the other hand, at some price, he will choose the sewage works over the pigs.
Both of these choices have external costs or benefits. The population in the area may also be pig- (or pork-) lovers, or they may be greatly opposed to the potential odour impact. And they may be in great need of an expanded sewage facility and this piece of land may be the best-located to minimize the impact, or they may all be located downwind. The owner has no reason to take account of these preferences. There is no reason why the owner's preferences should be aligned with the community's preferences.
The planning system exists to try to take account of impacts on the community and their preferences to some extent. But it is missing a vital piece of the puzzle: price. Just as, at some price, the owner may be willing to have a sewage works rather than a pig farm on his land, the level of contribution to local taxes from whatever is developed on the land may have a significant bearing on the local population's willingness to accept one or the other (or neither) use.
Of course, a communal decision cannot perfectly take into account individuals' preferences, and not everyone will be happy with the outcome. But that is true of whatever system you use to take account of the local externalities of development (given that transaction costs prevent the theoretical ideal solution of individual contracting). A system that incorporates the valorisation through negotiation of the local externalities will be closer to an efficient/acceptable solution than one that ignores the issue.
Now let's remember that externalities can be positive as well as negative. It may be, for instance, that a local post office is something that almost no one regards as negative and most people regard as positive. Landowners, on the other hand, may be reluctant to use their land for the development of a post office if the rent it yields is probably lower than some alternative uses. The community could valorise the external benefit to them of a post office by negotiating a zero-rating with the landowner for post-office use. On the other hand, they will probably not do the same for a second post office (which makes the point that use-banding will not deal with this point). And they will certainly not do the same for a waste incinerator. Should we apply some flat-rate charge (whether based on capital or rental value of land) regardless of the costs and benefits that the use brings to the local community? Or should we create a system in which, so far as possible, we align the preferences of the landlord and the community?
In a system with a charge based on the value of land, many developments that the community would like to see may be economically prohibited if the combination of LVT and the rent that a landlord requires in order to justify developing the land is greater than the rent that the use can support. Business activities that would otherwise have been developed to everyone's satisfaction if the business taxes were lower would be prohibited, to negative economic effect. And some uses that are unpopular but necessary may not sufficiently compensate the community in which they are located, if (for instance) they are forced on a community by a planning inspector, minister or quango, because the original planning process did not have the flexibility to negotiate an outcome that was satisfactory for both parties.
A BR based on land values will have little relationship to the costs and benefits to the local community of these decisions. And so we will continue with our broken planning system, with its multiplicity of negative public-choice incentives. There is no way to fix this without bringing price/compensation into the planning equation, and there is no way to do that and end up with a business-taxation scheme where charges are simply proportionate to assumed land values.
BGP, now we are getting somewhere:
You say: "Should we apply some flat-rate charge (whether based on capital or rental value of land) regardless of the costs and benefits that the use brings to the local community? Or should we create a system in which, so far as possible, we align the preferences of the landlord and the community?"
My starting position is that I'm absolutely all in favour of the second approach - but that an LVT based on market values (i.e. the first approach) would achieve this without any fancy crapola layer of quangoes (no 'picking losers' on this 'blog, thank you very much!):
a) Looking at any particular site, whether sewage works or pig-farm; wood-pellet distributor or coal merchant - any of these choices has costs and benefits to other people in the area.
b) The owner - or potential owner - of any particular site will work out potential income and expenses involved with any particular use. The income is what local people are prepared to pay (for sewage treatment, pork, wood-pellets or coal) and the expenses are what it will cost him (employing local people to shovel shit; rear and slaughter pigs, or schlepp bags of wood-pellets or coal off lorries and into cars).
c) The person who can best judge the trade-off between what local people are prepared to pay (qua customer) for that service, and what they expect to be paid (qua employee) for that service are prepared to bid the highest amount for buying or renting that site.
d) Ergo, as the market value of the site depends on what the highest bidder is prepared to pay, the bidder who can best match these competing interests gets to rent or buy the site.
e) What that bidder reckons he can pay therefore dictates the market value of the site, but as LVT reduces the capital cost of the successful bidder's initial outlay (in exchange for a higher tax burden - the NPV being equal with or without LVT), this tips the balance in favour of the use that is of most benefit to local people (whether as customers, employees or investors in his new venture).
What's not to like?
Mark,
1. Where does a "fancy crapola layer of quangoes" come in?
2. Do you understand the concept of externalities? Repeatedly claiming that the market somehow takes account of them doesn't make it so. In fact, the truth is precisely the opposite, by definition.
BGP.
1. You'll need somebody to "align the preferences of the landlord and the community".
2. Yes I do. The externality we were actually talking about was vacant commercial buildings dragging neighbourhoods down, and how BR on vacant premises not only gets them filled (see my Fun Online Poll) but stimulates economic activity.
Turning to other externatlities, that's why we have planning restrictions. If some madman* wants to build a nuclear power station or pig farm in the middle of a genteel area, then they won't allow him. And if the majority of people in the village are JW's or Quakers, they might not allow any pubs to open at all. Or maybe local parents want more playgrounds - in which case the council buys up the land (for market value) and turns it into a playground. And so on.
You just have to draw the line between sensible restrictions and rampant NIMBYism. But yet again LVT rides to the rescue - if the value of your house really does go down because of new developments nearby, well, at least you LVT bill goes down to compensate.
* Or 'economically irrational' - he would be foolish to spend money on expensive residential land to do these things.
Mark,
1. This is a straw man. Nowhere have I suggested that a quango would be involved in this, because that has nothing to do with my idea. I set out the outline of my idea (including a statement of which body - the relevant planning authority - would negotiate the price with the developer) in my first comment:
"In my opinion, Business Rates should be set at a level that has nothing to do with the nominal value of the land, and everything to do with the community's valuation of the external costs and benefits of the activity, arrived at (for new business activities) by negotiating the rateable value as part of the planning process, or (for existing business activities) enshrining current valuations."
2. This is shifting ground or definitional retreat. You have the strangest ideas of what externalities are. Your first effort was:
"what is market value other than "the community's valuation of the external costs and benefits of the activity"?
Exactly the opposite, actually, by definition. But note that you were talking here about plural "external costs and benefits of the activity". Rather different to your new narrower position:
"The externality [singular] we were actually talking about was vacant commercial buildings dragging neighbourhoods down". What? No benefits, and only one cost now?
In between, we had your comment of 00:50, which put more flesh on your earlier confusion. The underlying assumption of that comment is that all costs and benefits to a community of a business activity in their area are encapsulated within the (capital or rental) value of the site on which the activity is conducted, and that other values (e.g. outside the community, not all business transactions being local) are so insignificant to the net value to the landowner that the capital or rental value is reasonably proportionate to the internal-external value to the community. That either redefines externalities again as things that are internal to the market process (black is white), or dismisses the possibility of externalities altogether (under which unique conditions, your statements in that comment could be true). And even if either of these were true, the idea that the rental value will be proportionate to the value to the local community, which requires the assumption that more distant costs and benefits (including the value of non-local customers) will always be insignificant, is absurd.
In any case, you are quite entitled to say what you were talking about (however nonsensical) with regard to externalities, but you are not entitled to say what I was talking about, nor to try to limit the externalities that could be considered by a local business taxation scheme, particularly if the scheme in question is someone else's idea. I gave many reasons why LVT is a bad idea, most of which you have not addressed. But I never referred to externalities in those criticisms. I referred to externalities with reference to my own idea (because that is the hub of my idea, as opposed to an irrelevancy to yours). I referred repeatedly to multiple external costs and benefits, not just one single cost. I gave odour as an example. Empty buildings dragging the neighbourhood down may be what you were talking about, but when we started discussing my idea, it was not what we were talking about.
[And by the way, I acknowledged the benefit of removal of the BR exemption for empty properties in addressing this issue in my very first comment, but you have remained determined to imply that this is the only criteria for judging a system of local business taxation, and that somehow LVT is the only way of addressing it, despite the fact that current BR is not LVT and removal of the exemption has addressed it.]
Nevertheless, if I were to accept your attempt to shift the ground, you still wouldn't be on strong ground.
You are using the term "externality", so let's start with definitions:
"an impact on a party that is not directly involved in the transaction...[such that] prices do not reflect the full costs or benefits in production or consumption of a product or service" according to wikipedia, or
costs (or benefits) that "fall outside the parties to the transaction that creates these costs. External costs are therefore not taken into account in the marketplace, even when these are very substantial costs [or benefits], which can extend beyond monetary losses to include bad health and premature death" according to Thomas Sowell.
I'd give you the Oxford and Seldon's dictionaries' definitions, but they are in my office, and I am not. But these will do.
You are taking "dragging down the neighbourhood" as an externality. There are plenty of people who would disagree that this is an externality, but let's take it at face value for now.
You claim that the value of LVT reflects the value of this externality. It follows that the more expensive the land, the more costly the externality, and the cheaper the land, the less costly the externality.
Let's say we have a community in which all business premises are occupied. Now a business closes. The impact on the community of one piece of land being temporarily unused is not that high. The neighbourhood is hardly being dragged down. But capital and rental values will have fallen little as a result of a single unit coming available. In fact, in a market where supply is all but fully saturated, we could expect values to be high. So LVT will be high, implying a high external cost from this property being unused.
Now half the businesses in the area close down, in a slump. The neighbourhood really is being dragged down. Rental and capital values plummet. LVT falls with it, implying that the external cost of unused commercial buildings dragging down the neighbourhood has fallen at exactly the time that the reverse is true.
So, you say, we will put up LVT to reflect the increasing external cost, and because this applies to empty properties, this will drive the landowners to take whatever business they can get.
But it will not reduce the cost to potential tenants. Which means it will not increase the likelihood that the properties will be let.
Let's say we take your assumption that the value is neutral to the proportion that is rent and the proportion that is tax (it's not, but let's pretend). Now let's take a hypothetical property where the rent was £30,000 and LVT was £18,000, making a total cost to the occupant (or value of the property) of £48,000 and a LVT rate of 37.5% (of course, it would be much higher than this even at the start, because this was roughly the BR situation before the depression, and you want to replace lots of other taxes with LVT; but again, let's pretend).
Now we have a downturn, lots of properties come empty, and market value falls to £24,000 all-in (i.e. by 50%). You respond by increasing LVT to 75% (because in this hypothetical, we are testing the credibility of the notion of increasing LVT to reflect the increasing impact on the neighbourhood in a downturn). The value to the community remains £18,000 (so you haven't put it up enough to take account of the increased external cost of "dragging the neighbourhood down", but again, let's pretend). The value to the landowner has fallen to £6,000. He (and the other landowners of vacant properties in a slump) cuts his spending proportionately to his fall in income. Life gets tougher for local businesses, more of them close, and market values fall further to £18,000. Now what do you do? Do you put up LVT to over 100%, to reflect the dreadful externality? Or do you accept that in this circumstance, when the neighbourhood is really suffering, that LVT needs to fall, not rise?
Of course you're not going to do this. You are going to maintain a fairly steady rate of LVT, so that the value/cost of LVT falls as rents fall. But then your mechanism is providing less recompense to the community for empty properties dragging down the neighbourhood as this becomes an increasingly serious problem. It's nonsense, of course, because this is not a rational externality, and if it were, LVT is a rubbish way of internalizing it.
And here's another conceptual problem for you. LVT, according to you, internalizes the external cost to the community of unused properties dragging down the neighbourhood. But a landowner pays LVT relative to the nominal value of the property, whether it is in use or not. If it is in use, it is not dragging down the community, and there is no external cost. And yet landowners are charged just as much for this non-existent external cost as if the property were empty. How can you have a price for an externality that is the same whether or not the externality is incurred?
I would have addressed the question, raised by the final paragraphs of your latest comment, of why the only local externality whose value should be charged to local businesses is the one you invent, and why every other externality should be dealt with by authoritative judgment. And I would have commented on your distortion of my views in your more recent post, and of the irrelevance of your poll to this debate. But it is increasingly apparent that there is no point trying to have a reasoned debate with you.
It is clear that, for you, LVT comes first, and truth and reason a distant second. "My LVT, right or wrong" should be your cry. Your argument in the course of these comments has been an example of one-sided assessment. It is deeply disingenuous and breathtakingly ignorant (in the case of your original comment about externalities). The wilful or ignorant misinterpretation that underlay your suggestion that I was arguing for a quango-ized system demonstrates that you are not debating in good faith.
I'm sure this won't be the end of it, but I doubt I'll bother replying to further distortions.
BGP
1. You say "the relevant planning authority - would negotiate the price with the developer".
I say 'quango'.
2. You say "Now we have a downturn, lots of properties come empty, and market value falls to £24,000 all-in (i.e. by 50%). You respond by increasing LVT to 75%"I say ' LVT would be set at a flat % of capital or rental values of the land element'. So if rents fall by half and the rental value of the building is the same, then LVT would come down by more than half. Even with BR, the tax should come down if rental values come down far enough.
That is why LVT ought to be introduced at the bottom of the market - it will keep rents and capital values low and so prevent booms/busts in the property market (which was the major cause of the current recession - oh, look! another 'externality' that LVT has helped to deal with).
3. You then launch into a long definition of 'externalities'. I know what externalities are. That is the whole point. Vacant properties dragging a neighbourhood down are externalities which BR or LVT deals with (as the example shows).
There are also externalities such as the smell that emanates from a pig farm or sewage works. That impacts on surrounding properties, so the owners thereof ought to be compensated. But under LVT those owners do get compensation - their land value has gone down so their tax goes down accordingly.
Can you give a few more specific examples of the 'externalities' you are thinking of, and we can see whether LVT helps things or makes things worse.
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