Tax Analysts Blog

A Double Bias Against Infrastructure

Posted on Oct 20, 2014

One of the top priorities of Republicans in the next Congress will be the inclusion of macroeconomic feedback effects in the official revenue estimate of tax bills. If a tax change increases economic growth, that growth will increase overall tax revenues. Under current official procedures, these growth effects are not included in revenue estimates. So-called dynamic scoring would include these effects, reduce the estimated revenue loss of tax cuts, and potentially make tax reform much easier to pass.

If Republicans are successful at implementing dynamic scoring of tax bills, the question then arises as to what other types of legislation would also measurably affect growth and revenues. At the top of the list of possibilities has to be proposals to increase and improve the allocation of funds for infrastructure. Investment in transportation and other public works provides both demand-side stimulus and supply-side capital formation.

The case for dynamic scoring of infrastructure legislation is stronger than it is for tax bills. The direction and the size of the change in capital formation due to changes in tax law are often highly uncertain. In an infrastructure bill, uncertainty surrounding that critical factor is eliminated. So controversy about the size of dynamic feedback effects would be less for infrastructure legislation than it would be for tax bills.

In a report released earlier this month, the IMF made the case for more debt-financed infrastructure spending by governments: “Debt-financed projects could have large output effects without increasing the debt-to-GDP ratio, if clearly identified needs are met through efficient investment. In other words, public infrastructure investment could pay for itself if done correctly.” By not taking into account the full benefits and excluding dynamic revenue effects of increased investment from the official scoring of infrastructure legislation, the budgetary costs are being overstated.

But this is not the only shortcoming in our scorekeeping of public investment in infrastructure. In a true economic sense, when Treasury issues a bond that is used to buy a capital asset, there is no decline in government wealth (or, to put it differently, no increase in net debt) because the increase in liabilities is countered with an increase in assets. But under current practices, all we see is a harmful increase in government debt.

If we want a real understanding of the federal government’s financial picture, we should strive for an accurate picture of both sides of its balance sheet. Issuing debt to invest in infrastructure should not be scored as an increase in the deficit the same way as government spending on social programs is scored. Capital accounting like that used by American business would remedy this bias.

Our current system paints too gloomy a financial picture of government investment. Biases in our accounting are making the passage of highway and other infrastructure legislation more difficult than it needs to be.

Read Comments (1)

vivian darkbloomOct 20, 2014

"In a report released earlier this month, the IMF made the case for more
debt-financed infrastructure spending by governments: “Debt-financed projects
could have large output effects without increasing the debt-to-GDP ratio, if
clearly identified needs are met through efficient investment. In other words,
public infrastructure investment could pay for itself if done correctly.”

First, the "if" utilized in that paragraph is a pretty big "if". Basing
budgetary scenarios on idealized facts is not particularly helpful or prudent.

Second, and this is a bit more subtle. There seems to be a new meme going
around that seeks to redefine how something is "paid for". The
above-referenced passage cleverly does that without expressly stating the trick.

In normal budgetary parlance, something is "paid for" when the tax *revenues*
it produces exceeds the costs (debt) government incurs. Not so in the above
formulation. Here, something is supposedly "paid for" if the debt incurred
does not increase the debt-to-GDP ratio. Not at all the same thing, by a very
wide margin. If we assume that a dollar of infrastructure spending produces a
dollar of extra GDP (not a difficult hurdle to overcome), then, on average,
that extra GDP dollar would produce about 20 cents of revenue (income taxes and
social security premiums).

If we want to accept this new definition, it appears Mr. Laffer was right after
all. But, since when have his critics ever accepted that definition of "paid
for"?

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