There’s a lot to like in Local Government New Zealand’s report on local government finances.

The report gets one very important thing right: It’s time that central government moved to tie local government finances more closely to local government performance to encourage development.

Unfortunately, that one very correct and very important thing risks getting lost in some of the other ideas floated in the report.

Consider the poor council facing a resource consent application for a new mining development. If there has not been much mining activity in the region, the council will not have much in-house expertise and so will have to contract in for service.

Whichever way it decides, it is likely to face protracted legal battles through the Environment Court and appeals all the way up through the High Court.

Suppose that the proposed mining project was actually a good one that posed little environmental risk and could provide strong local employment.

The project’s upside would mostly accrue to central government through increased income tax, GST and royalties. While the local council might see a bit of an uptick in property taxes, it would face most of the resulting costs.

The same process plays out for all kinds of new developments. New subdivision? Local government can get a bit more in local property taxes but reaps all of the complaints from anybody who does not like the potential effects on traffic, from those who think it’s a sin that farmland ever be turned into houses, and those who just do not like seeing more houses as they drive out to the beach or to the ski field.

Central government gets the increased income tax take as we make it easier for migrants to settle in New Zealand, the lower health care costs as overcrowding is alleviated and the GST on the new builds.

New industrial park? Central government gets the PAYE and corporate taxes; local government gets a bit more property over which to assess property taxes.

You can almost understand why some local bodies are not nearly as keen on economic development as central government might want.

The LGNZ report also gets a few of the smaller things right. Central government foists regulatory burdens on to local government with little consideration of compliance costs. All levels of government should pay a bit more attention to the costs of regulatory compliance.

Further, central designation of non-rateable land acts as a mandatory subsidy from local government for centrally provided services like health, education and conservation, as well as for things like religious organisations that should not be subsidised in the first place.

Even if religious organisations provide some local public services, those should be contracted for directly by the appropriate level of government; property tax exemptions make it too easy for religious organisations to sit on land in high-value areas that could be put to better service.

Unfortunately, the big picture could be missed in arguments over some of the report’s details.

The Taxpayers’ Union, in its response to the LGNZ report, chided the body for missing the ample opportunities available to local councils to improve their balance sheets by exercising spending discipline. Rather than seek to impose new taxes, the Taxpayers’ Union wants local bodies to stop throwing money away.

On the details, the Taxpayers’ Union is entirely correct. It is hard to imagine a worse nightmare than every local body deciding on its own soda tax and billboard tax. And if local bodies see congestion charging as a revenue gathering scheme rather than as a way of reducing congestion and encouraging optimal road use, I’d oppose it too: the congestion tax that maximises local government revenues is not likely the one that encourages the best use of the roads.

Local income taxes can have unintended consequences. Because local income taxes drive higher income residents out to the neighbouring suburbs, they can wind up being followed by commuter taxes on those employed in the city but resident elsewhere; the LGNZ report notes these kinds of effects.

But worse, as economists Ed Glaeser and Andrei Shleifer explained, Detroit mayor Coleman Young used a combination of local income taxes and commuter taxes in a deliberate effort to drive his richer opponents out of town: he made it cheaper for wealthier Republicans to live just outside of town limits (and into the next mayor’s district) and commute in.

Detroit was not made better off by local income taxes.

How can we align local government revenues with development while avoiding messes like local income or sales taxes?

One way to start would be by cutting local councils in on the benefits of development. Central government could track each council area’s contributions toward income tax, company tax, GST and resource royalties.

Councils able to attract new housing developments or new businesses would get a cut of the resulting increase in central government’s tax take.

Suddenly, councils could shift from seeing new developments as a costly hassle to seeing them as a new profit centre. They would compete to attract and keep residents and businesses, whether through faster consenting processes, better services, lower property taxes or a mix of all three.

I get the feeling that a lot of people in central government really wouldn’t trust local councils to blow their own noses. For them, the idea of handing local government more money seems about as sensible as giving money, booze and the car keys to a teenaged boy – if they’ve been reading their PJ O’Rourke.

But if the transfer from central government to local government were tied to local government’s ability to attract more residents and more businesses, it would only be subsidising the kinds of outcomes that central government wants to encourage anyway. The kinds of behaviours that constantly infuriate central government would be less likely when local governments had stronger incentive to compete for new residents.

The first step is getting the incentives right. If the incentives were right, local bodies’ competition for residents and businesses could even start getting at the kinds of waste that the Taxpayers’ Union rightly hates.

Until those incentives are right, the two levels of government could spend a long time yelling at each other.

That all requires that nobody decides to amalgamate all the local councils into units too big to compete effectively with one another. But we wouldn’t be silly enough to do that though, would we?

Dr Eric Crampton is head of research at The New Zealand Initiative