What Happens When Communities Don’t Collect the Rent?

Henry George’s thesis is that the public collection of the rent of land leads to vigorous, sustainable prosperity — all the benefits of “association in equality”. We can find evidence for its validity in the negative as well as the positive. What about those communities that fail to collect the rent of land, leaving it in private hands? Do they become worse off?

In our last section we noted with pride the good effects achieved by many Pennsylvania cities by increasing property tax rates on land and lowering them on buildings. That was the good news — the bad news, though, is that for many years the political trend in the United States has been great antipathy toward the property tax, and many regional “tax revolts” have aimed at getting it reduced. The most famous of these was California’s Proposition 13, which was enacted by referendum in 1978. Tax rates were capped at 1% of property assessments as of 1978, until properties were sold. The result was a huge increase in California’s land prices, and a decline in every other index of economic health. Here’s more on what happened in California.

A 1998 study by Gaffney and Noyes (which was published in The Losses of Nations) found a consistent correlation between greater reliance on property taxes (as opposed to sales and/or income taxes) and higher income levels. The property tax was once the principal source of money to fund state and local governments. It provided some 80% of all state-local revenue until the early 1920s, but by the start of the 1980s it had dwindled to only about 30%. Some states shifted later, or less, than others, however. New Hampshire actually never made the shift; it still relies on the property tax for almost two-thirds of its state and local revenue. New Hampshire is the only state in the Union where more than half of all government revenue comes from the property tax — and its economy has been growing twice as fast as its neighbors, Maine and Vermont.

This table shows the five highest and five lowest states in terms of the portion of each taxpayer’s state/local taxes made up by the property tax. (Click on the chart for a closer look.)

The states with higher incomes have higher taxes overall, but the important fact here is the ratio: higher-income states collect a higher proportion of state and local tax revenue from property taxes. (The high-income states could collect more of their revenue from income taxes, but they don’t; were they to do so, they would most likely follow California’s example of economic decline.)

How About Farm Land?

Although it is generally thought that “tax relief is good for farmers”, the fact is that lowered taxation of agricultural land has led to extreme concentration in the ownership of farm land and the virtual disappearance of the small farm in the US. Between 1930 and 1945 the national average of farm property tax rates fell from 1.32% to 0.77% (Gaffney, 1992). They have stayed at roughly that level, and farm sizes rose ever since, to a national average of 462 acres by 1987. Land values have kept climbing, while real wages have not increased since 1975. This means that the average farm cost 6 years’ wages in 1954, and 17 years’ wages by 1987. Lowered taxes on farmland, combined with the increased demand for non-farm uses brought about by suburban sprawl, have made small farms unviable, except as a vehicle for land speculation.

Gaffney and Noyes conclude their 1998 paper by saying, “There is a correlation between the relatively heavy use of property taxes, as a part of the state/local tax mix, and high per capita incomes. This invites one final question: How much larger would these differences be, and how much better the results, if one end of the fiscal spectrum were socially-created land rents alone, clearly distinguished from the other end — the labor and industry of individuals?”

Rent in Developing Nations

The world’s industrial nations do manage to capture some of their aggregate rent through various indirect means, such as “capital gains” taxes, estate taxes or progressive income taxes (although these have been considerably eroded in the United States). Developed nations also use governmental resources to apply macroeconomic “fixes” to mitigate the disastrous swings of the boom/bust cycle. To see the results of not collecting any land rent for public revenue, we need to look at the Third World. Many Less Developed Countries (LDCs) bear heavy foreign debt burdens, and are drawn to compete for foreign investment. A vicious cycle ensues, which erodes their tax base. In order to “stay in the game” and possibly secure debt relief, these nations must present a more attractive tax and regulatory climate than their competitors, who are in similar straits. The result is a starvation of public services such as education, roads, communications and medical care: all the things a community needs for economic development.

The “Resource Curse”

Some LDCs have received windfalls in the form of the discovery of valuable mineral resources, particularly oil. Would not the rents from these resources, which accrue to national governments, allow them to invest in their own development and climb out of poverty? Yet, sadly, in many nations this has not happened. Instead, resource royalties have been squandered in un-economic public works, cronyism, and military spending. This phenomenon has happened often enough to have been given a name: economists refer to the related pathological syndromes of the “Resource Curse” and the “Dutch Disease”. In the former, windfall profits from easily attainable natural resources tempt corrupt politicians to simply spend on consumption; industrial decline follows. The Dutch Disease is named after the problem faced by the Netherlands after its discovery of natural gas in the 1970s. A big increase in gas exports led to a rising value of Dutch currency. This led to a decline in other exports. Then, more capital resources went into the more-profitable gas industry, which further heightened the decline in other industries. This process has been seen in other petroleum exporting countries such as Venezuela, Mexico and Nigeria.

Is there a remedy for the Resource Curse? The experience of Norway shows that there is. Norway is a large exporter of oil, and currently enjoys the highest per-capita standard of living in the world. Wages in other industries were kept relatively high by employing a centralized bargaining system, rather than leaving workers to bargain with each individual firm. Oil revenues were invested in public education, and were used for macroeconomic stimulus during downturns. Also, oil revenues were released into the economy sparingly, so as not to encourage inflation. Most of the revenues were invested in a national fund, whose worth is currently nearly 75% of Norway’s gross domestic product.

It is interesting to note, however, that the existence of this large fund has, in recent years, tempted Norwegian politicians to release the funds into the economy more rapidly than had previously been thought prudent. The result has been increased inflation and economic volatility. The Norwegians had managed to avoid the “Resource Curse” in the special case of oil, but had not been able to stop the underlying boom/bust cycle. Henry George’s analysis shows why: the injection of oil revenues into the economy must serve, in time, to increase land values. If those rents are not collected for public revenue, the boom/bust cycle is the natural result.

Indeed, the “Resource Curse” does not apply just to oil, or to extractable resources, or to any particular kind of resource, but to all land. This is implied (though not followed up on) in the literature about this phenomenon. Economist Douglas Yates, for example, describes the phenomenon of the “rentier state,” in which the Resource Curse “embodies a break in the work-reward causation… rewards of income and wealth for the rentier do not come as the result of work but rather are the result of chance or situation.” (An over-reliance on un-earned rental income, as George explains, is the basic force that pushes an economy into recession.) Similarly, Norwegian economist Erling RØed Larsen observes that “dealing with the Dutch Disease involves mostly macroeconomic policy instruments, [while] avoiding the Resource Curse may include more fundamental elements of society…. Avoiding the curse, the literature says, reduces to preventing rent seeking.”

It has been argued that the resource curse only operates when a nation depends on a single windfall resource — and that, therefore, the phenomenon of the resource curse cannot occur in a country with diverse natural resources and decentralized ownership thereof. However, the development of mortgage-based derivative securities, whose values came from residential land values, provided a mechanism that turned the United States’s diverse, middle-class landowning patterns into just as tempting an economic drug as Nigeria’s oil. The Great Recession of 2008 and beyond should serve as a warning that wherever land and resource rents go into private hands, there’s no avoiding the “resource curse.”

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