Tax cuts, in their various forms, have emerged as the fiscal instrument of choice for a variety of goals: stimulate the overall economic growth, create jobs, reduce unemployment and attract investment.
The Kennedy and Reagan Tax cuts are sentimental and bipartisan examples used as arguments for applying the same strategy today. Those episodes from recent history are subject to easy challenge as useful models because the contexts are so different and the cause/effect conclusions are never as tight as politically driven proponents would have us believe.
Even for a specifically targeted sector as opposed to general economy, tax cuts in the form of investment tax credits were chosen as an important vehicle in the 2009 economic stimulus package (ARRA). The Renewable Energy Tax Credit Program (RETC) uses tax credits to encourage the development of manufacturing facilities making “solar, wind, and geothermal energy equipment; fuel cells, microturbines, and batteries; electric cars; electric grids to support the transmission of renewable energy; energy conservation technologies; and equipment that captures and sequesters carbon dioxide or reduces greenhouse gas emissions.”
Quoting Energy Secretary Steven Chu: "These tax credits will help create thousands of high quality manufacturing jobs in some of the highest growth segments of the economy. This is an opportunity to develop our global leadership in clean energy manufacturing and build a secure, sustained base of jobs for America's workers."
(August 13, 2009 TG-262 Treasury, Energy Announce more than $2 Billion in Recovery Act Tax Credits for Energy Manufacturers http://www.treas.gov/press/releases/tg262.htm US Treasury)
The Kennedy and Reagan Tax cuts are sentimental and bipartisan examples used as arguments for applying the same strategy today. Those episodes from recent history are subject to easy challenge as useful models because the contexts are so different and the cause/effect conclusions are never as tight as politically driven proponents would have us believe.
Even for a specifically targeted sector as opposed to general economy, tax cuts in the form of investment tax credits were chosen as an important vehicle in the 2009 economic stimulus package (ARRA). The Renewable Energy Tax Credit Program (RETC) uses tax credits to encourage the development of manufacturing facilities making “solar, wind, and geothermal energy equipment; fuel cells, microturbines, and batteries; electric cars; electric grids to support the transmission of renewable energy; energy conservation technologies; and equipment that captures and sequesters carbon dioxide or reduces greenhouse gas emissions.”
Quoting Energy Secretary Steven Chu: "These tax credits will help create thousands of high quality manufacturing jobs in some of the highest growth segments of the economy. This is an opportunity to develop our global leadership in clean energy manufacturing and build a secure, sustained base of jobs for America's workers."
(August 13, 2009 TG-262 Treasury, Energy Announce more than $2 Billion in Recovery Act Tax Credits for Energy Manufacturers http://www.treas.gov/press/releases/tg262.htm US Treasury)
The program provides a 30% credit for investments in new, expanded, or re-equipped advanced energy manufacturing projects.
The credits are awarded in a process that is surprisingly devoid of market influence. Quoting from the Department of Energy description- “The Department of Energy (DOE) and the Internal Revenue Service (IRS) will review and make determinations on the eligibility and merit of MTC (Advanced Energy Manufacturing Tax Credit) applications. Applicants will receive tax credits based on the expected commercial viability of their project and the ranking of their project relative to other projects. Rankings based on: expected job creation, reduction of air pollutants and greenhouse gas emissions, technological innovation, and ability to have the project up and running quickly. Technology, geographic & project size diversity, and regional economic development will also be considered when rating projects.” (http://www.energy.gov/recovery/48C.htm)
But using tax credits to encourage new ventures in new technologies can’t depend on nostalgia for support because there really isn’t any history to count on.
Tax credits tend to be most useful to full tax payers. Enterprises that are in the product development stage and have not hit their stride in revenue or profits don’t have tax liabilities to offset. The written-in ability to use the credit over the next 20 years is better than nothing, but that’s not necessarily what that type of company most desperately needs. What they want is long term fixed revenue for their products or services. In other words, customers with deep pockets – like the federal government.
Such credits are most useful to established firms with current tax liabilities to erase. The credits won’t necessarily change their investment behavior, but it will enhance the after-tax income statement.
Why do companies in the renewable energy business need tax incentives at all? Why aren’t “market forces” sufficient. The risks of doing business in an emerging technology are several: risk of technical failure; uncertainty of demand volume; the pricing of competitive products, especially from existing technology. These are the risks examined by all involved, including potential investors. Occasionally the federal government tries to accelerate market progress either because it needs better products for its own purposes, such as military applications or because certain constituencies are not being served by unfettered capital such as what inspired federal sponsorship of rural electrification or universal telephone service. When these legacy supports or subsides outlive their original intent, they can become obstacles to emerging technological replacements.
Such is the case with renewable energy. The goal is to eventually replace the slowly dwindling supply of non-renewable, a.k.a. fossil fuel with renewable energy sources delivered through more efficient, adaptive and intelligent energy storage and distribution systems. Customers are reluctant to switch over to a new source if it is not predictably cheaper, and at least as reliable in the long run as oil and coal. Given that there are no new sources of fossil fuels, we already know that eventually the supply will run out and will be very expensive. We just don’t know the timetable.
Some of the uncertainty in timing comes from the current regime of subsidies for fossil fuels, both direct and indirect. The normal price fluctuations associated with the trading of energy commodities are further influenced by federal programs that: provide security at geo-politically challenging choke points such as shipping sea lanes from the Pentagon; standby fuel cleanup capacity; strategic fuel storage; carbon capture and storage, essentially none of which is incorporated into energy prices. Additional direct subsidies to the oil and gas industry are embedded in the tax code: produces are allowed to take deductions normally reserved for domestic manufacturing even though such production isn’t normally thought of as manufacturing; “intangible” costs like the use of machinery and materials that get consumed that are normally written off over the life of the gear, are allowed to be expensed immediately; special “percentage depletion” provisions allow for the cost of using up property as a percentage of gross revenues instead of actual costs over time until the asset is exhausted. All of these, plus several more, reduce the tax burden of producing fossil fuels.
These federal interventions serve to distort the real value of vanishing energy supplies, encourage overuse, accelerate inevitable depletion, but most relevant here, and make an already difficult terrain for emerging technologies even more hazardous.
Over the last 100 years Federal roles have been prominent in the development of several industries and infrastructures
○ Nuclear technology
○ Modern pharmaceuticals
○ Interstate highway system
○ Rural electrification
○ Universal telephone service
○ Civil aviation
○ Information technology (IT) – (electronic computers, computer software, semiconductor based electronics/integrated circuits, and the Internet)
The last two are particularly applicable to the renewable energy sector.
Civil aviation fits, because it is an example where the federal government helped to spawn commercialization through its role as customer: as a shipper of airmail.
A much more comprehensive and useful example would be the IT industry. Both IT and energy are critical to national and economic security, and are industries where the federal government is a large, and in the case of the military, technologically demanding customer.
Rather than follow recent energy policy which, in addition to tax breaks, consists of
● Direct and indirect subsidies to energy production (e.g., Synthetic Fuels Corporation)
● Intermittent subsidies to consumer conservation efforts (1978 tax credits dismantled during the Reagan administration)
● Mandated use of politically selected alternative fuels (e.g., ethanol),
we might adopt some lessons learned from the federal role in the development of the post World War II information technology (IT) sector.
Early federal participation in IT was characterized by:
● Public funding of R&D, both academic and commercial leading to accelerated diffusion of technologies that otherwise might have been inhibited by monopolistic behavior on the part of patent holders
● A procurement policy that importantly came during early stages of industrial development that, in many cases, required multiple suppliers which encouraged new industry entrants as well as larger established firms
● Bipartisan cooperation brought on by the cold war/national security environment
● Relative absence of mandated technology: instead mostly mandated performance specifications
● Rapid commercialization: by the 1960s private industry’s requirements overtook the military influence in setting the IT industry agenda.
Against this backdrop, a more market-focused federal energy strategy might deliver widely accepted results.
Policy Objective: accelerate rather than substitute for market processes in developing new energy-related industry capabilities – products, providers and distributors
1. Government should not defeat the proper role of the market by selecting specific technologies or individual, exclusive suppliers.
2. It should not favor one side of the market (supply) as do current tax expenditures, but rather encourage demand for energy-efficient products including those for construction and transportation, through procurement policies.
3. Develop intellectual property policies that allow relatively free flow of innovation (where the intellectual property belongs to the government) among suppliers and generally favor multiple suppliers for large orders. These practices will tend to discourage or eliminate monopolistic behavior and thereby improve market performance.
Such credits are most useful to established firms with current tax liabilities to erase. The credits won’t necessarily change their investment behavior, but it will enhance the after-tax income statement.
Why do companies in the renewable energy business need tax incentives at all? Why aren’t “market forces” sufficient. The risks of doing business in an emerging technology are several: risk of technical failure; uncertainty of demand volume; the pricing of competitive products, especially from existing technology. These are the risks examined by all involved, including potential investors. Occasionally the federal government tries to accelerate market progress either because it needs better products for its own purposes, such as military applications or because certain constituencies are not being served by unfettered capital such as what inspired federal sponsorship of rural electrification or universal telephone service. When these legacy supports or subsides outlive their original intent, they can become obstacles to emerging technological replacements.
Such is the case with renewable energy. The goal is to eventually replace the slowly dwindling supply of non-renewable, a.k.a. fossil fuel with renewable energy sources delivered through more efficient, adaptive and intelligent energy storage and distribution systems. Customers are reluctant to switch over to a new source if it is not predictably cheaper, and at least as reliable in the long run as oil and coal. Given that there are no new sources of fossil fuels, we already know that eventually the supply will run out and will be very expensive. We just don’t know the timetable.
Some of the uncertainty in timing comes from the current regime of subsidies for fossil fuels, both direct and indirect. The normal price fluctuations associated with the trading of energy commodities are further influenced by federal programs that: provide security at geo-politically challenging choke points such as shipping sea lanes from the Pentagon; standby fuel cleanup capacity; strategic fuel storage; carbon capture and storage, essentially none of which is incorporated into energy prices. Additional direct subsidies to the oil and gas industry are embedded in the tax code: produces are allowed to take deductions normally reserved for domestic manufacturing even though such production isn’t normally thought of as manufacturing; “intangible” costs like the use of machinery and materials that get consumed that are normally written off over the life of the gear, are allowed to be expensed immediately; special “percentage depletion” provisions allow for the cost of using up property as a percentage of gross revenues instead of actual costs over time until the asset is exhausted. All of these, plus several more, reduce the tax burden of producing fossil fuels.
These federal interventions serve to distort the real value of vanishing energy supplies, encourage overuse, accelerate inevitable depletion, but most relevant here, and make an already difficult terrain for emerging technologies even more hazardous.
Over the last 100 years Federal roles have been prominent in the development of several industries and infrastructures
○ Nuclear technology
○ Modern pharmaceuticals
○ Interstate highway system
○ Rural electrification
○ Universal telephone service
○ Civil aviation
○ Information technology (IT) – (electronic computers, computer software, semiconductor based electronics/integrated circuits, and the Internet)
The last two are particularly applicable to the renewable energy sector.
Civil aviation fits, because it is an example where the federal government helped to spawn commercialization through its role as customer: as a shipper of airmail.
A much more comprehensive and useful example would be the IT industry. Both IT and energy are critical to national and economic security, and are industries where the federal government is a large, and in the case of the military, technologically demanding customer.
Rather than follow recent energy policy which, in addition to tax breaks, consists of
● Direct and indirect subsidies to energy production (e.g., Synthetic Fuels Corporation)
● Intermittent subsidies to consumer conservation efforts (1978 tax credits dismantled during the Reagan administration)
● Mandated use of politically selected alternative fuels (e.g., ethanol),
we might adopt some lessons learned from the federal role in the development of the post World War II information technology (IT) sector.
Early federal participation in IT was characterized by:
● Public funding of R&D, both academic and commercial leading to accelerated diffusion of technologies that otherwise might have been inhibited by monopolistic behavior on the part of patent holders
● A procurement policy that importantly came during early stages of industrial development that, in many cases, required multiple suppliers which encouraged new industry entrants as well as larger established firms
● Bipartisan cooperation brought on by the cold war/national security environment
● Relative absence of mandated technology: instead mostly mandated performance specifications
● Rapid commercialization: by the 1960s private industry’s requirements overtook the military influence in setting the IT industry agenda.
Against this backdrop, a more market-focused federal energy strategy might deliver widely accepted results.
Policy Objective: accelerate rather than substitute for market processes in developing new energy-related industry capabilities – products, providers and distributors
1. Government should not defeat the proper role of the market by selecting specific technologies or individual, exclusive suppliers.
2. It should not favor one side of the market (supply) as do current tax expenditures, but rather encourage demand for energy-efficient products including those for construction and transportation, through procurement policies.
3. Develop intellectual property policies that allow relatively free flow of innovation (where the intellectual property belongs to the government) among suppliers and generally favor multiple suppliers for large orders. These practices will tend to discourage or eliminate monopolistic behavior and thereby improve market performance.
The federal role in financing research should not be underestimated. A recent article on the government role in new technology focused on a few illustrative examples including nanotechnology:
Scientific research in nanotechnology, much of which has important defense applications, may be an example of another field in which federal R&D funding could play an important role in the development of a general-purpose technology. .. Steve Jurvetson, recently characterized the role of private investment in the development of nanotechnology applications as follows: “ We [venture capitalists] have come in much later, after [something that] was an incredibly risky proposition bears some fruit in terms of a prototype of some products. That’s when we first invest…. Every one of our nanotech and related companies was first federally funded in a university setting or in a government lab” (from “The Federal Role In Financing Major Innovations: Information Technology during the Postwar Period”, Kira R. Fabrizio and David C. Mowery in Financing Innovation in the United States, 1870 to the Present, edited by Naomi R. Lamoreaux and Kenneth L, Sokoloff, MIT Press 2007)
Conclusion
Much of the criticism directed at the government participation in industrial development is the prospect of the government substituting for the market in picking winners and losers. However, when federal agencies use their purchase dollars to provide a minimum of demand based on performance specifications (rather than specific techniques or technologies and built-in advantages for existing large firms) and encourage multiple suppliers, then new sectors can be jump-started and induced to survive their most fragile formative stages.
New entrants, unencumbered by legacy technologies and manufacturing capacity need the promise of demand over extended production runs to achieve cost-effectiveness the ability to attract capital at a competitive rates.
One additional bonus to rapidly cranking up demand for the new products: the accelerated increase in steady demand will encourage investment in automated manufacturing, reducing the relative advantage of cheap foreign labor, and increase the relative cost of shipping the finished products from Asia. Otherwise the “green jobs” will be limited to installing the new imported devices and not manufacturing.
If affections for manipulating the tax code can’t be overcome, then use the IRS to encourage conversion to non-fossil fuels by subsidizing purchases from renewable supplies.
Conclusion
Much of the criticism directed at the government participation in industrial development is the prospect of the government substituting for the market in picking winners and losers. However, when federal agencies use their purchase dollars to provide a minimum of demand based on performance specifications (rather than specific techniques or technologies and built-in advantages for existing large firms) and encourage multiple suppliers, then new sectors can be jump-started and induced to survive their most fragile formative stages.
New entrants, unencumbered by legacy technologies and manufacturing capacity need the promise of demand over extended production runs to achieve cost-effectiveness the ability to attract capital at a competitive rates.
One additional bonus to rapidly cranking up demand for the new products: the accelerated increase in steady demand will encourage investment in automated manufacturing, reducing the relative advantage of cheap foreign labor, and increase the relative cost of shipping the finished products from Asia. Otherwise the “green jobs” will be limited to installing the new imported devices and not manufacturing.
If affections for manipulating the tax code can’t be overcome, then use the IRS to encourage conversion to non-fossil fuels by subsidizing purchases from renewable supplies.
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