Business & Economics

Who Should Pay For Infrastructure Improvements?

Most of the infrastructure spending laid out in Biden’s plan should be funded by the private sector or state and local governments, not the federal government

Image Credit: Drew Angerer/Getty Images

In the American Jobs Plan the Biden administration has proposed spending $2.3 trillion, ostensibly on infrastructure over the next eight years. Some parts of the proposal, such as home care services, long-term care, workforce development and housing, do not fall within the common understanding of infrastructure.

But even those parts of the Biden plan that do involve roads, airports and other projects traditionally deemed infrastructure are problematic. That’s because the proposal would increase the role of the federal government in paying for investments that, until now, have been largely funded by the private sector or state and local governments. In addition, the plan would increase corporate taxes, which in turn would likely lead to a reduction in private infrastructure investment. And so, ironically, enactment of this infrastructure plan (at least in its current form) may ultimately result in a net decrease in infrastructure spending.

The American Jobs Plan includes spending on several different kinds of infrastructure. It proposes to “fix highways, rebuild bridges, upgrade ports, airports and transit systems.” It will also “deliver clean drinking water, a renewed electric grid, and high-speed broadband to all Americans.” It also includes spending to “revitalize manufacturing, secure U.S. supply chains, invest in R&D, and train Americans for the jobs of the future.”

If infrastructure is defined as nondefense, nonresidential fixed assets—including buildings, bridges, pavement, railroad tracks, river channels, machinery and equipment, cables, pipes, software and the like—then about 65% of U.S. infrastructure is owned by the private sector, with most of the rest (30%) held by state and local governments. Indeed, only 5% of the nation’s infrastructure is owned by the federal government. This is positive because the private sector and even state and local governments are likely to make better decisions about infrastructure investment and maintenance. And they will be better able to implement their plans without all of the federal grants and subsidies proposed in this bill.

Private infrastructure investment is guided largely by the desire of the firms and individuals that own it to earn a profit. This gives them an incentive to innovate to better serve the needs of those who use the road, port, etc. It also gives them an incentive to find the most cost-effective ways to finance and build infrastructure.

Firms do not need government assistance to invest in facilities and equipment or research and development, which makes up a substantial share of the $300 billion the president proposes to spend on promoting domestic manufacturing. Owners and managers of firms do a better job than the federal government in deciding how to invest. To spur such investment, though, it is important that the federal government not tax away a large share of the profits that firms expect to earn from selling more and better goods and services.

State and local governments also can make better decisions about infrastructure they hold. This includes highways and public transportation, sewer and water systems, and airports and port facilities. In each case, the government that has jurisdiction over most of the users of a light rail system or bridge can be expected to be more accountable in terms of taxes and spending than a larger, more distant government entity. Thus water systems are best funded by local governments, major highways by state governments, and streets by cities and towns.

The federal government should only fund or subsidize projects that benefit the general public rather than just the local community where the investment is made. Thus, it may make sense for the federal government to spend $30 billion to invest in protecting Americans from future pandemics, as proposed in this plan. But investments that benefit the nation as a whole rather than benefiting paying users (think toll roads) or state residents, such as investment in interstate highways used largely by out-of-state residents, is a small percentage of total proposed spending.

One of the largest line items in the American Jobs Plan is the $174 billion for investment in electric vehicles (EVs). The justification for the government subsidizing the purchase of EVs rather than requiring their owners to pay the full market price is that replacing vehicles powered by internal combustion engines (ICVs) with EVs will reduce carbon dioxide emissions, a benefit that may have a negligible impact on individual purchase decisions. Moreover, research shows that the cost of the additional pollution resulting from generating the electricity used by EVs compared to ICVs may well exceed the benefits of reduced CO2.

At the same time, owners of EVS gain substantial benefits from using them, such as savings on maintenance. As the technology improves and the cost of production falls, more and more people will be willing to pay the full market price. But subsidies might slow this kind of progress on EVS because without them entrepreneurs have a greater incentive to find ways to reduce costs in order to increase their market share.

Likewise, the government should not subsidize vehicle charging stations since those can be privately provided. Although state and local governments had invested $529 million in charging stations for privately owned vehicles by the end of 2019, private charging service providers invested more than $2.8 billion. And public utility regulatory commissions have approved investment by electric utilities of almost $1.3 billion in programs to expand charging infrastructure. As the number of electric vehicles increases, entrepreneurs will have incentives to invest in additional charging stations geographically spaced in response to demand, just as firms invested in gasoline stations in response to the spread of ICVs around the turn of the 20th century.

When the federal government funds anything, it generally spends more than necessary. For example, the American Jobs Plan prioritizes having local governments, co-ops and nonprofits rather than private firms invest in expanding broadband networks. But evidence reveals that if the government owns the infrastructure, “it costs about 10 percent more than if privately owned.” Evidence is unavailable on the costs of nonprofits or co-ops, but because private firms are seeking to maximize profit, they have a greater incentive than the government, co-ops or nonprofits to keep costs down.

The plan also increases federal funding of highways, public transit, airports and port facilities, each of which is owned and operated mostly by state or local governments, sometimes in partnership with private firms. Although the federal government provides a substantial share of highway and transit funding, there is no good reason why states could not provide most of this funding themselves. Most highway revenue comes from fuel taxes. Each state has its own tax on gasoline, with all but two states charging higher tax rates than the federal government. States also receive the lion’s share of federal fuel tax revenue since state or local governments are responsible for road construction and maintenance projects.

Public transit systems are owned largely by local agencies, though some of those agencies extend across state lines. The federal government has provided substantial assistance to local transit agencies in the past. It is better, however, for transit subsidies to be funded by local governments since they have a much greater stake in the project. After all, a well-run public transit system can increase local property values.

With locally funded transit, each jurisdiction will make better decisions about how much spending is cost-effective. For example, local governments with budget constraints are more likely to be open to reducing transit investment if demand stays down due to the recent increase in the number of remote workers. When local governments compete with each other for federal funding, each agency has less incentive to economize because most of the money is paid by taxpayers from other parts of the country.

In the case of airports and port facilities, lots of advantages would result from funding them privately rather than by the government. There is no reason why passengers and those who ship air freight should not pay the full cost of airport improvements. Likewise, shippers should pay the full cost of expanded port facilities. If not fully funded privately, then continued state or local funding makes more sense, since those who benefit from the facilities are likely to be primarily local residents.

Substituting federal funding for private and state and local funding of infrastructure is almost always a mistake. Relying on the private sector for most kinds of infrastructure spending is more effective in keeping costs down, promoting innovation and directing spending to where it’s truly needed. State and local governments also have better incentives than the federal government to consider all costs and benefits in deciding how much infrastructure to fund and how to manage projects cost-effectively.

Federal government infrastructure subsidies and funding should be limited to projects subject to market failures that are national in scope—such as securing supply chains to limit the severity of disruptions caused by wars or pandemics—and to helping states and localities that would otherwise bear a disproportionate share of the cost for facilities that benefit the nation as a whole.

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