The following is adapted from Lester M. Salamon and George Schindler’s Securing America’s Future: Achieving U.S. Technology Independence and Job Growth, published by the CGI Initiative for Collaborative Government in 2008. For a more comprehensive analysis of these tools, see The Tools of Government: A Guide to New Governance, edited by Lester Salamon.
Tax Expenditures
Key Features
Tax expenditures are provisions in tax laws that encourage certain behavior by individuals or corporations by deferring, reducing, or eliminating certain tax obligations. The tax expenditure too alleviates the tax burden by allowing taxpayers to keep and spend money that would otherwise be owed to the government.
The tax burden in question can be federal or state income taxes, state sales taxes, local property taxes, or specialized use taxes. Tax expenditures can operate by reducing the income or sales against which taxes are levied or by offering a direct credit against tax obligations. Tax expenditures can also be made fully or partially “refundable” so that they deliver benefits even to individuals or corporations with limited or nonexistent tax obligations.
Advantages
● They are non-coercive, providing incentives for favored action but leaving considerable choice to those targeted.
● They are relatively automatic, making use of existing government taxing structures rather than requiring new administrative processes and institutions.
● They are politically viable since they can be sold as “tax cuts” rather than spending increases.
Disadvantages
● They make the tax system more complicated.
● They put tax authorities in the middle of often difficult substantive policy decisions for which they are not trained.
● They can create windfall benefits for actions that firms or individuals would have taken anyway.
● Their benefits are often not very salient or not very substantial, especially for firms or individuals with limited or highly complicated tax obligations. As a result, individual taxpayers, especially low-income ones, are often not aware of these benefits and corporations are often not interested in them.
Grants
Key Features
Grants are payments made from a donor government to a recipient individual or organization to stimulate or support a public objective. The federal government alone operates well over 900 grant programs. About two-thirds of these are directed at state and local governments and the balance provide aid to individuals or nonprofit organizations.
Grant programs vary along a number of dimensions:
● The degree of specificity of the purposes supported.
● The eligible recipients (e.g., states, local governments, nonprofit organizations).
● The mechanism used to distribute the funds (i.e., on the basis of automatic formulas or on the basis of applications reviewed by funding agencies).
● The control mechanisms used to ensure that eligible purposes are served (e.g., planning requirements, matching requirements, reporting requirements, pass-through requirements).
Advantages
● They enlist state and local governments and thus mobilize the talents and resources of these governmental entities.
● They permit the adaptation of federal purposes to local realities.
● They foster innovation and competition among jurisdictions.
● They avoid political and constitutional resistance to federal involvement in state and local affairs by leaving substantial responsibilities, and substantial discretion, in state and local hands.
● They even out disparities among states and regions and tap the superior revenue-raising capability of the federal government for important national objectives.
Disadvantages
● Grants are highly fragmented and difficult to manage. There are many small, often similar, but differently operated and narrowly defined categorical grants, resulting in inefficiency and duplication of effort.
● Grant funding formulas are frequently politically determined, which can lead to too wide a dispersal of available funds for truly effective results.
● Local jurisdictions often use grant funds for purposes that differ from the original federal objectives, especially when grant objectives are drawn too broadly.
● Alliances often form among the program specialists and external actors involved in particular grant programs at federal, state, and local levels, making it difficult for elected officials to achieve coordination among the different programs.
Procurement Set-Asides
Key Features
Procurement set-asides are provisions in law or regulation stipulating preferential treatment for particular classes of fi rms in the issuance of government procurement contracts. Set-asides can reserve acquisitions exclusively for particular types of firms (e.g., small businesses or veteran-owned businesses) or simply provide special consideration of the designated type of fi rm in the procurement process.
Advantages
● They use an existing mechanism to promote important public purposes at no, or limited, additional cost to the public sector.
● They utilize the existing government procurement system to advance valid public purposes while still fulfi lling the central objective of the procurement.
Disadvantages
● Set-asides complicate the procurement process, making it necessary to clear a number of hurdles unrelated to the purchase at issue and extending the process.
● Set-asides make it more difficult for the government to purchase the best products at the most reasonable price and lead to criticisms of the procurement process as being inefficient.
● Set-asides are often diffi cult to administer, making it important to implement safeguards to prevent contractors from taking advantage of socioeconomic criteria to boost their apparent competitiveness in procurement decisions.
● Set-asides can potentially lead to windfall benefits because of the difficulty of specifying the basis for the set-aside.
Loans
Key Features
Loans are payments made to recipients with the expectation of repayment. Two broad types of loan tools are available:
● Direct loans, where a government agency extends the loan directly using funds raised through Treasury borrowing.
● Guaranteed loans, where the government relies on the commercial banking system to extend the loans using private funds and the government offers a full or partial guarantee of the loan to protect the financial institution against loss in the
event of default.
Loan programs can also vary along a number of
other dimensions:
● Eligible recipients (individuals, companies, local governments or quasi-governmental bodies meeting specified geographic, income, or other eligibility criteria).
● Equity participation or collateral requirements on the part of the borrowers.
● Equity participation on the part of lenders in the case of loan guarantees.
● Default criteria.
● Loan terms (fees, maximum interest rates, maximum loan amounts, maturities).
● Conditions for loan forgiveness.
Advantages
● Both direct and guaranteed loans are cost-effective for the government since the borrowed funds are typically paid back (with allowance for defaults).
● Loan programs allow government to provide needed credit for recipients or purposes that commercial sources are unwilling to support, or unwilling to support at an affordable cost, without the government guarantee (e.g., investments in high-risk areas or to small businesses).
● Direct loans are generally less costly since the government can issue bonds and raise capital at a lower interest rate than can private banks and thus pass along the lower rates to borrowers. However, private bankers generally oppose direct government loan programs, fearing that they put government in competition with the private banking system.
● Guaranteed loans leverage the capital and skills of the private banking industry and are generally highly preferred by banks, but are more costly to the government and potential lenders.
Disadvantages
● Guaranteed loans put the government at the mercy of the commercial banking system in deciding who receives guaranteed credit because the commercial banks essentially originate the guaranteed loans. This can lead to “moral hazard” (extending credit to noncreditworthy borrowers) or “windfall profits” if the banks get government guarantees for creditworthy borrowers.
● Government credit agencies frequently have difficulty monitoring the lending programs they authorize.
● Loans are sometimes insufficient incentives to trigger the action that the government is trying to stimulate.
● Loan guarantee programs often involve guarantee fees that boost the cost of borrowing.
● Banks sometimes fi nd it undesirable to participate in programs that are too narrowly drawn because of the start-up costs of learning the program requirements.
Vouchers
Key Features
Vouchers are subsidies that provide purchasing power to individuals for particular sets of goods or services. Vouchers differ from grants in that grants typically direct funds to the providers of goods or services (e.g., states, local governments, nonprofit organizations) whereas vouchers make assistance available to the recipients of goods or services and allow them to choose among providers. Well-known voucher programs include Medicare, Medicaid, and food stamps. Like other tools, vouchers can vary along a number of dimensions:
● Eligible recipients (defi ned in terms of income, age, family status, geographic residence, or other factors).
● Eligible uses.
● Eligible providers (certification processes).
● Eligible costs for covered goods or services.
Advantages
● They provide choice to consumers and thus, at least in theory, create incentives for greater efficiency and responsiveness on the part of producers.
● They can be targeted at specific goods and services and thus relieve political concerns about the leakage of benefi ts for non-priority items.
● Because they are targeted at specific goods and benefits, they pick up crucial political support from the providers of these goods and benefits (e.g., grocers and farmers support food stamps but might not support general income assistance to the poor).
Disadvantages
● They assume that consumers are informed about the choices they face and can therefore make sound decisions in the market, an assumption that simply does not hold in many situations (e.g., the markets for health care and education).
● They assume there is an adequate supply of the subsidized good or service, also an assumption that is often not the case, with the result that vouchers can lead to enormous cost escalation.
● It is often difficult for government to set the appropriate price for the services it is
financing. Various pricing systems have had to be developed to deal with the problems in
programs such as Medicare and low-income housing.
● Unqualified suppliers are sometimes attracted into the markets subsidized by vouchers (e.g., in Medicaid and the higher education voucher programs). Complex certification procedures are required to avoid this.
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