6. Supply-side incentives to development: Business climate policies
This chapter begins the discussion of state and local economic develpment policies. This chapter specifically focuses on business climate policies that don't have any particular substate local focus. He summarizes (in the introduction to the next chapter) these policies as those with the object "simply to lure outside firms across the state's doorstep and to keep existing firms within it." (p. 173) These policies try to make the state more attractive to business.
Comparative business climates
Eisinger says that the notion of comparative business climates is the main factor that sustains the maintenance of location incentives as economic development policy.
Various researchers and other observers identify policies thought to influence business location decisions (or business profitability), weight them, and then rank states according to some aggreggate score.
He notes that individual state rankings tend to vary greatly from one survey to another and even over time within a single survey. This is largely due to the fact that there is little agreement about the precise factors that matter or their relative weights.
There appears to be no real consensus about the accuracy of rankings or how seriously businesses take them, but state officials and politicians seem to take them seriously. But they can't control all the elements of the ranking, just taxes and spending, including incentives, and the regulatory climate.
Tax policy
Government officials consider their tax profiles as a central characteristic of their business climates. [When all you have is a hammer...] The tax profile has two components: the general tax structure and tax incentives. The general structure applies to all businesses (type of taxes, rates, overall burden, etc.) Incentives apply to particular businesses or businesses in particular industries or locations and limit of mitigate the effects of the tax structure.
Tax reductions or other business-favorable changes to the tax structure, aside from any empirically measurable effects, have a symbolic or signalling value. They indicate to businesses that the state has a friendly and flexible attitude toward business. A second persistent theme in tax policy is the desire by a state to mimic its geographical neighbors. They don't want to be seen as out of line from nearby states. [Kenyon addresses issues of yardstick competition and identifying competitors in more detail.]
Eisinger says that in this context, incentive policy is less related to economic theory than to advertising.
But he notes that tax competition hasn't resulted in a "downward spiral of unremitting tax reductions." (p. 140) No race to the bottom, in other words. He says this is because states are responsible for spending on education, roads, etc. -- things that also affect business location decisions. He says this requirement has resulted in tax-system diversification over time. More states using more types of taxes.
Tax competition has also contributed to the trend of more burden falling directly on individuals and less directly on businesses. Along those lines, he points out two other trends in postwar state and local fiscal policy. One is the rise in real expenditure levels [this trend has been affected by the post-1990s swoon in state revenues], the other is the attempt to mitigate the impact of higher tax levels by switching to less visible taxes, applying selective relief, and shifting the burden.
Tax increases tend to occur "only under duress" (p. 145) and even then officials claim (sometimes accurately) that the increase is only temporary.
Incentives
Incentives may be available to all businesses as a matter of right, or only to those meeting certain criteria, or only as a result of selective negotiation.
General incentives include those such as accelerated depreciation or job-creation or investment tax credits. These incentives may have some restrictions or requirements, but they usually apply as a matter of right to all who qualify. (i.e. no negotiation required) [I seem to recall that Fisher and Peters give a good overview of incentive typology.]
A common incentive that is often not general is the property tax abatement. He cites Cobb on the Southern genesis of tax abatements and notes that until the late 1970s tax abatement programs were mainly limited to southern states. But in the late 1970s they quickly spread nationwide as a result of intensified interstate competition. He notes the political controversy (corporate welfare, etc) surrounding abatement policy.
He also notes three features that make them popular with policy makers. The cost is forgone future revenue, not revenue out-of-pocket; they are adminstratively simple, and they have unambiguous signalling value.
Debt financing
Debt-financing (i.e. cheap capital) is a classic supply-side policy. It started in the South, during the depression. [See Cobb.] It comes in several forms: direct loans, pooled development funds, loan guarantees, and revenue bond financing.
In direct loan programs, states make low- or no-interest loans from their own capital. Often the loans are only available to firms that can't obtain financing elsewhere. [!]
Pooled development funds are run by business development corporations and loan from a pool provided by private investors. Some states subsidize these pools by offering tax credits in return for pool investments.
In loan guarantees, the state promises to see that some portion of a loan is paid back even if the firm defaults. By taking on part of the risk from the lender, the state lowers the interest rate charged the borrower.
The main debt-financing program is tax-exempt bond financing. This has become a universal feature of state and local economic development policy -- some form of it exists everywhere. A state or community sells tax-exempt bonds and uses the money to construct facilities for an incoming business. The debt is paid off from lease payments from the firm. The firm essentially is allowed to borrow money at the lower, tax-exempt government bond interest rate.
Like tax abatements, this was mainly a southern state policy until the 1970s. Since then, boom! The advantage of these programs is that the US treasury bears most of the costs in the form of reduced tax revenue, since interest paid to bondholders is tax-exempt.
Over time, the feds have put restrictions on the volume of bonds issued. [Largely at the urging of northeast state officials and politicians that felt like the South was being subsidized to raid northern states of their manufacturing.]
IRB programs are predominantly local (not state) programs, although states may limit their use to high-unemployment or other distressed areas.
Labor incentives
Labor affects business climate through wage rates, availability, and worker productivity and reliability -- factors largely beyond the control of the state. Consequently, state labor policy aims to lower the cost of labor through policies in three main areas: right-to-work laws, job-training programs, and worker comp and unemployment insurance programs.
Right-to-work laws prohibit closed union shops, weakening unions and reducing their baraining power. This tends to hold down wages and frees employers from union work rules, etc. RTW started in the South and spread to the West and central plains states.
Job-training programs are often provided as part of the package of inducements to attract a new firm. States often use their vocational and technical schools to provide specialized training for employees of the new firm.
Finally, states can tailor the burden of the quasi-taxes that businesses pay in the form of workers comp and unemployment insurance premiums. As with taxes, states often try to mimic the burdens of their neighbors.
Regulatory policy: Growth versus the environment
Environmental regulation is costly to business so "negotiable" environmental enforcement enhances a state's business climate. [Cobb outlines just how negotiable Southern states could be.] But federal laws and growing widespread environmental concern have reduced interstate differences.
State have also tried to streamline their permitting process; that's one cost of business that can be reduced without harming environmental quality.
Eisinger, P.K. (1988). The Rise of the Entrepreneurial State: State and Local Economic Development Policy in the United States. Madison, WI: University of Wisconsin Press.
Posted by Chip on July 20, 2004 at 09:24 AM | TrackBack