This week, a coalition charged with finding a way to clean up polluted bodies of water in Minnesota announced a plan that will raise some $80 million per year by adding a tax to water bills.
The objectives of the plan are good, but the specifics of the tax are bad. Nevertheless, it is probably the best that can be done given the state’s political climate.
The action is necessary because of a federal requirement under the Clean Water Act for states to evaluate the conditions of lakes and rivers. Those identified as “impaired” must be cleaned up. If the state does not comply, no federal permits will be issued for new industrial facilities or even for expansion of municipal sewage-treatment plants.
The objective of reducing existing pollution is a good one, though environmental economists generally think prevailing federal measures could be more effective. The problem is how to finance the cleanup. When pollution comes from easily identifiable sources such as factories or municipal treatment plants, the polluting facilities can be forced to reduce harmful emissions. Company owners or taxpayers foot the bill.
Much of the pollution in question, however, is of the “non-point source” variety. It comes from general urban and agricultural runoff. For example, chemical analysis can show what farm chemicals are in the Minnesota River, but it is impossible to identify which farms, among thousands, are most responsible.
Such practical considerations mean that some government expenditure — rather than exercise of police power — is required to fix the problem. The challenge then is to finance such expenditures efficiently and fairly.
That was the task taken on by the coalition of farm, local government, business and environmental groups that prepared the proposal. They had proposed charges on new residential sewer connections and septic tanks, but Gov. Tim Pawlenty refused to support that plan and asked for alternatives.
The new plan involves $3 per month charges for all residences with public water supplies. Other properties with their own water supplies and septic systems will have $36 added to their yearly real estate taxes. Businesses will pay from $180 to $600 per year based on water use.
The problem is that these charges are an excise tax on water. Economic theory and practical history demonstrate that excise taxes are inefficient because they involve a large expenditure of resources relative to the amount of funds raised. Moreover, they tend to be unfair by most people’s standards.
All taxes involve some degree of “excess burden,” economists’ term for the fact that a tax forces households and businesses to expend more resources complying with the tax than the government gets in revenue. This excess burden is a deadweight loss to society. Some are worse off, and no one else is better off.
People do not like income taxes, but these usually involve substantially less excess burden than do excise taxes. If the Legislature adopts this proposal, we will have to forgo satisfying other needs than if we funded the water quality improvement from general revenue. We will be poorer as a society.
Readers may object that a tax on water to pay for water quality projects is little different from a tax on motor fuels to pay for road improvements. There is a crucial difference, however. Motor fuel taxes vary directly with gallons used. Under this proposal, most business and household fees will not vary at all with consumption.
There is no incentive to cut back on water use at the margin, and in any case, current levels of water use are largely unrelated to the problems the program is meant to address.
Economists might add that in any case the merits of motor fuel taxes are largely in the area of public acceptance or of perceived fairness and not in economic efficiency.
Others might object that economists often call for taxes on emissions as a way to reduce pollution, a method superior to the regulatory approaches our country has taken. What then is wrong with the proposed charges attached to water bills?
The answer again is that the fee is largely unrelated to water consumption or waste discharge. Emissions taxes are designed to create an incentive to emit less. Any marginal reduction in emissions causes a proportional marginal reduction in taxes paid. That is not the case with the excise tax on water.
The Legislature is likely to adopt the proposal for pragmatic political reasons. It allows the state to respond to a problem without affecting the state budget deficit as we have defined it. Dedicating $80 million out of general revenue would worsen an already knotty problem. Creating a new “fee” or “surcharge” will not, even if it really is more costly to society.
The excessive costs we will pay in this program are directly attributable to the prevailing political ideology that nominal income tax rates must be reduced even when doing so causes greater damage to society than if the rates were left alone. The electorate supported this ideology in the last election, so we will get what we deserve.
© 2004 Edward Lotterman
Chanarambie Consulting, Inc.