Economic Development Incentives: A Necessary Evil? Russell S. Sobel, Ph.D.
Are Selective Incentives the Answer? Are Selective Incentives a “Necessary Evil” Given Bad Business Climate Rankings (e.g., bad policies)? What is the Evidence on Their Effectiveness from the Economics Literature? What are the True Costs / Side Effects?
Spending on Incentives Total all U.S. states, cities, & counties spend over $80 billion per year. There are 21 states spending more than one billion and another 10 that give between $500 million and a billion. Top 10: Texas $19.1 billion Michigan $ 6.6 billion Pennsylvania $ 4.8 billion California $ 4.2 billion New York $ 4.1 billion Florida $ 4.0 billion Ohio $ 3.2 billion Washington $ 2.4 billion Massachusetts $ 2.3 billion Oklahoma $ 2.2 billion Source: December 2012, the New York Times
Spending on Incentives South Carolina spends at least $896 million per year on incentive programs, or roughly $194 per capita, or 15¢ per dollar of state budget Top Incentives by type: • $435 million in Sales tax refund, exemptions or other discounts • $230 million in Cash grant, loan or loan guarantee programs • $104 million in Corporate income tax credit, rebate or reduction Top Incentives by industry • $218 million in Defense • $130 million in Manufacturing • $102 million in Agriculture Source: http://www.nytimes.com/interactive/2012/12/01/us/government-incentives.html#SC
Economic Theory to Understand • Frederic Bastiat - “The Seen and The Unseen”/“Broken Window Fallacy” • We must consider the unseen costs of what is given up when resources are used for incentives (What else the money would have created if left in the private sector, for example) • We must also focus on NET job creation (subtract ones who change jobs to be employed by incentivized firm)
A Tale of Two Airlines • Air South • 1994 Partially financed by the South Carolina State Government • Ceased operations in 1997 losing $12 million in state and $1.5 million in City of Columbia financing • Southwest Airlines • April 2010 state legislature was drafting legislation for $15 million • May 2010 Charleston County Council was ready to approve a 5% rental car tax • Charleston Regional Business Journal reported the legislation would not pass in 2010 • “State Senator Larry Martin of Pickens said the incentives bill is crucial to attract a low-fare airline anywhere in South Carolina.” • May 2010 USA Today reported “Southwest Airlines plans to begin flights to South Carolina next year and isn't waiting to learn if the legislature there will provide subsidies.”
Problems with Selective Incentives Evidence is they aren’t very effective and have high costs per job created They create an environment of favor seeking and “Unproductive Entrepreneurship” [William Baumol] • Girl Scout Cookie Example Doesn’t help small businesses and may make it worse for them • Taxes on them are higher and they have to compete with the favored firms