NCPA - National Center for Policy Analysis

Real Energy Tax Reform Eliminates Subsidies

November 15, 2011

Targeted tax credits have become a popular and prevalent method for the government to award preferential treatment to certain energy industries.  These credits act as a subsidy by favoring one industry or technology at the expense of another.  Such political decisions misallocate resources, waste taxpayer dollars, and prematurely force technologies into the marketplace, while taking away the incentive to lower costs.  The Energy Freedom and Economic Prosperity Act of 2011 would address the growing proliferation of tax credits while simultaneously tackling America's burdening corporate tax rate, says Nicolas Loris, a policy analyst with the Heritage Foundation.

Tax credits have many adverse effects on the market, as they distort forces that would otherwise bring about efficient solutions and effective allocations of resources.

  • First, by picking winners, and the government is inherently selecting losers as well -- some technologies that do not receive credits are forced to try to compete with rival products that, because of tax preference, have enormous cost advantages.
  • Furthermore, tax credits serve to relax producers such that they no longer have to expend as much effort to make their product marketable.
  • Additionally, the tax credit system inherently takes power away from the producer-consumer relationship, injecting into the mix the influence of lobbyists and interests groups who advocate for one credit over another.
  • Finally, these tax preferences push products onto the market prematurely, before they are adequately developed to the point that they would reasonably be able to compete without the preference.

By crowding out private investment and competitive parties to the technology's development, tax credits remove barriers to premature entry and allow the product to operate independent of efficient choices.

The Energy Freedom and Economic Prosperity Act of 2011 would eliminate numerous tax credits that have been implemented in the last several decades.  Because this amounts to a tax increase, the act would also seek to lower the corporate tax rate with the hope that the elimination of tax credits can help fund the return of American businesses that have been forced abroad in recent years by the overly complicated U.S. tax system.

Source: Nicolas Loris, "Real Energy Tax Reform Eliminates Subsidies," Heritage Foundation, November 3, 2011.

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