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1.12 The match oetween incidence of the property tax and the benefits of the service it finances is clearly far from perfect: the statutory burden of the property tax is distributed according to value of property; the benefits of the services it finances are not. The benefits of refLse collection, for example, are more proportional to household size than property value. Ne- ertheless, the property tax is more effective at confronting taxpayers with the cost of local services than are the other revenue sources that might be assigned to local government.

1.13 The principal alternatives (as illustrated in Annex Fignkre 2) consist of intergovernmental transfers--chiefly revenue sharing--and local indirect taxes. While transfers can play a role in implementing central government stabilization or distributional policies, t'-ey cannot function as prices: by definition, the level of transfers is determined exogenously.y Local indirect taxes also make bad prices. The direct burden of these taxes--the patent, the octroi, the business and professions tax--falls on business, rather than on residents as a whole. In the short term, residents have an incentive to vote themselves a subsidy. In the long term, the companies paying the subsidy have an incentive to cut back production--shifting the burden on 'o taxpayers in other jurisdictions- -or to leave the jurisdiction for more attractive, but economically less efficient, locations.

1.14 The economic case for the urban propercy tax is therefore persuasive. The experience of developing countries, however, is that it is extremely difficult to exploit. Although the property tax is ubiquicous--virtually all market economy developing countries assign a property tax to municipal government--it generates little revenue. Property taxes account for an average of only 1.3% of total public sector tax revenues in developing countries, according to the IMF s most recent survey. As shown in Annex Figure 2, it t:rpically accounts for less than 20% of r'-nicipal recurrent revenues in developing countries.

burden on a base that is inelastic in supply. The property tax performs well on these grounds, relative to the alternatives. Land is considered perfectly inelastic in supply. In the short run, buildings are also supply-inelastic. In the long run, owners of buildings can iespond to a tax increase by curtailing investment in new structure, shifting resources from real property to other forms of investment. Aut the extent of such supply responses is arguably less than results from equivalent levels of taxation on central taxes on income, or manufacturing, or from implicit tay-e-s on the financial sector. Inefficient supply responses are also reduced to the .- xtent the property tax functions as a benefit tax: if individual tax liabili-.ies match the distribution of tax-financed benefits, there is no incidence to avoid.

i/ In principle, local surcharges on central government taxes would be an attractive means of financing municipal government, as they would combine the benefits of local control over local revenue levels with the berfits of central government tax administration. Such surcharges are common i the industrial countries. Because of the narrow coverage of central direct taxes (chiefly income and payroll) and the consequent heavy reliance of developing countries' governments on indirect taxes, it would be difficult to devise a surcharge that effectively confronted local taxpayers with local service costs.