Misconceptions about corporate welfare

There are many distortions in the US economy.  As a result, a decision by a corporation to move to a new area often has important spillover benefits.  Indeed this is also true of many individuals.  California would gain significant net benefits if Warren Buffett were to move here from Nebraska.  These are not good reasons, however, to oppose a national policy that discourages sweetheart deals that try to induce interstate migration.

Here’s an analogy.  The fact that Barry Bonds hit more home runs after using steroids is not a good argument against a major league ban on steroid use.  (There may be good arguments against such a ban–I’m agnostic.  But the effectiveness of steroids for individual players is not such an argument.)

Suppose that California collects $10 billion in revenue from corporate income taxes.  Also suppose that the optimal corporate tax rate is zero.  Now assume that California raises the tax rate on most corporations, in order to cut the rate on a favored few.  Revenue stays at $10 billion.  If you look at the select few beneficiaries in isolation, it might look like the subsidies make sense.  They may add net benefits to the state, even at the reduced tax rate.  But that ignores what Bastiat called “the unseen”.  The negative effect on non-favored companies.

New York may gain net benefits from attracting Amazon.  But how many firms will leave New York as a result of the higher taxes imposed on other companies, as a result of the subsidies provided to Amazon. In my view, states should compete for business and for individuals by offering an attractive economic climate for all people.

I do understand that other approaches are possible.  You could have state officials in California visit billionaires in New York, offering a 5-year income tax holidays if they moved west.  These billionaires would pay more in sales and property taxes than they’d use in public services. Meanwhile, New York officials could do the same.

Does this make sense from a national perspective?  It’s hard to see how—even if you think state income taxes are a bad idea.  For instance, this type of policy regime tends to encourage corruption.  Resources are wasted on the negotiations.  Individuals will game the system by moving around to earn tax holidays.  Companies will do the same.  Politicians are babes in the woods compared to big corporations—look how Wisconsin’s governor got taken to the cleaners by Foxconn.

Just say no.

To summarize:

1. When considering the benefits from attracting favored firms, one needs to consider the indirect effect on non-favored firms.

2. Even in the rare case where corporate sweetheart deals help a given state after accounting for the negative effect on other firms, it’s still probably in the national interest to a have a policy that discourages such deals.  As an analogy, even if monopsony power means that the optimal tariff for big countries is positive, it probably makes sense for the US and the Eurozone to sign a free trade agreement with zero tariffs.

Let’s adopt a policy of treating individuals equally, and also treating companies equally.  That policy is likely to be best in the long run, even if there are occasions where favoring a certain person or company might produce local benefits. Don’t underestimate the value of simple, clear and transparent tax regimes that treat everyone equally.

 


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20 Responses to “Misconceptions about corporate welfare”

  1. Gravatar of Jim B Jim B
    19. November 2018 at 12:53

    “I feel strongly that deep and simple is far more essential than shallow and complex.” -Fred Rogers

    Well said, Scott. I always laugh when I hear calls to “get the money out of politics” because they rarely seem to consider why people are willing to give so much.

  2. Gravatar of Chris Chris
    19. November 2018 at 13:02

    It would likely take an Amendment to accomplish it – I don’t trust Congress to write a bill that isn’t chock full of loopholes and exceptions.

    That being said – what would such an Amendment look like? I think you could probably craft a populist sounding Amendment that could get passed.

  3. Gravatar of Doug M Doug M
    19. November 2018 at 14:28

    Of course Florida is famous for attracting the very wealthy to move there with its warm climate, and lack of income tax or estate tax.

  4. Gravatar of Christian List Christian List
    19. November 2018 at 14:32

    @Doug M
    According to Scott that’s a very bad idea of Florida because in order to that Florida would have to raise rates on all their other inhabitants to stay at the same revenue…

  5. Gravatar of Christian List Christian List
    19. November 2018 at 14:38

    Now assume that California raises the tax rate on most corporations, in order to cut the rate on a favored few.  Revenue stays at $10 billion.  

    I don’t get your examples. Why would California raise tax rates on other corporations? You seem to make the basic mistake of assuming that a system is static and closed.

    But the new company comes from another state. So, no matter how high the new taxes are for this new company, the new company increases revenue. So California can even lower rates for other firms as well and revenue would still stay the same. Not to mention that any new company brings much more benefits than just more revenue of corporation taxes.

    It’s also a bit strange to assume that other companies would simply accept it if they permanently had to pay a lot more taxes than others. Which company does this in the long term?

    I can understand the “national perspective”. Politicians and bureaucrats like having full control over taxes. They don’t like competition. I just do not understand why you defend this perspective.

    No tax competition anymore? That would significantly reduce the incentives to lower taxes. Just look at Europe.

    So, no tax competition between companies? None between counties? None between states, either?
    How far do you want to play this game? Then why tax competition between countries? And why stop at taxes? Why different wages for different people? An why sometimes even different wages for similar jobs? And why different prices at all?

    I see the problem, but the solution is much simpler: The taxes on corporations should be zero.

    The tax competition between states looks like a race to the bottom to me. So in the end they will arrive at exactly this goal: Zero.

    What’s your plan for reaching zero? Do you think Congress is reasonable and will reach this conclusion on their own?

  6. Gravatar of Benjamin Cole Benjamin Cole
    19. November 2018 at 16:06

    Good post.

    Globally, industrial location appears to be the result of comparative advantages created by government, up to and including free land, free capital, and tax holidays.

    If the US is to not match those benefits, and not impose tariffs, what are the expected results?

  7. Gravatar of Lewis Lewis
    19. November 2018 at 17:45

    In NYC it’s somewhat more direct: Amazon will consume a bunch of floorspace, directly and via its employees. Zoning limits the amount of floorspace (or at least how quickly it can be added). So amazon’s consumption of floorspace will lower someone else’s, but we won’t “see” them not getting that floorspace. Some will be evicted and in that case it’s obvious, but the truly displaced are those who would have occupied the floorspace, and who knows where they are.

  8. Gravatar of Chris Chris
    19. November 2018 at 20:17

    You mention that a tariff-free agreement between the US and the EU would be a good idea. Are there situations where tariffs might be a greater good, for instance where subsidized foreign firms are destroying domestic industries that are essential to national defense?

  9. Gravatar of Matthew Waters Matthew Waters
    19. November 2018 at 20:59

    “Of course Florida is famous for attracting the very wealthy to move there with its warm climate, and lack of income tax or estate tax.”

    Those pale in comparison to America’s best homestead exemption against judgments.

  10. Gravatar of Benjamin Cole Benjamin Cole
    20. November 2018 at 04:08

    Corporate welfare?

    Here is a gem from IHS Market

    “The expansion of the FPD (flat panel display) equipment market that started in 2016 has been driven by the high equipment intensity of new flexible active-matrix organic light-emitting diode (AMOLED) display factories and the scale of Gen 10.5/11 LCD factories,” said Chase Li, senior analyst at IHS Markit. “This expansion has been further fueled by Chinese local governments, which have supported panel makers with various mechanisms such as financing, land grants, reduced taxes, infrastructure and direct subsidies.”

    Oh! Land grants, financing and direct subsidies for flat-panel makers in China, and now there is an industry glut. Gee, so Foxconn is reconsidering its Wisconsin love-nest? Those stupid cheese-heads!

    So…what part of the China economy is “free market”? If these are private-sector manufacturers of flat panels, are they counted as “free market”?

    Egads.

  11. Gravatar of bill bill
    20. November 2018 at 05:57

    I agree 100%.

  12. Gravatar of John Hall John Hall
    20. November 2018 at 06:48

    “These are not good reasons, however, to oppose a national policy that discourages sweetheart deals that try to induce interstate migration.”

    That sentence isn’t easy to grok…

  13. Gravatar of Patrick R. Sullivan Patrick R. Sullivan
    20. November 2018 at 08:08

    ‘Politicians are babes in the woods compared to big corporations….’

    Boy, is that ever wrong. Maybe Scott Walker was a naif, but most politicians are far more cynical than any CEO ever could be and survive in a competitive world. Look what happened to Bill Gates. He used to ignore politics completely. But, ala Trotsky, politics was interested in him; US v. Microsoft being the result.

    Politicians cut deals that benefit THEM (and their cronies) not their states/cities. It well may be that the kind of thing Amazon just pulled is the second (or third, fourth…) best that the residents of New York could have gotten. At least there’s SOME recognition that corporations can’t be held up for extortion to some degree.

  14. Gravatar of Jose Jose
    20. November 2018 at 08:18

    If one prevents local authorities from competing in reducing taxes, in a few years local taxes will go up in synchronized fashion , choking the private sector. Believe me, it has happened in Brazil. The capability to attract companies by tax deals has to be seen not individually in a photograph, but as a dynamic process.

  15. Gravatar of ssumner ssumner
    20. November 2018 at 08:42

    Chris, Simple—apply a 100% federal tax on corporate tax credits granted by local governments.

    Doug, That’s the sort of policy I favor.

    Christian, You said:

    “No tax competition anymore?”

    No one is proposing that.

    Jose, You said:

    “If one prevents local authorities from competing in reducing taxes”

    No one is proposing that.

  16. Gravatar of derek derek
    20. November 2018 at 08:48

    @Chris, I’m not sure you need an amendment, but an expedient legislative solution would be to simply tax state/local corporate tax breaks as federal income, making any such breaks irrelevant. If you want to attract a certain corporation, you do so by being attractive to corporations in general.

    The question is whether getting rid of that system just results in more difficult to quantify preferential treatment or outright undisclosed bribery, but it would prevent states from being contractually obligated to provide this preferential treatment since anything in a contract would clearly be taxable.

  17. Gravatar of mpowell mpowell
    20. November 2018 at 09:37

    I can see a case for providing inducements for people or businesses to move to underdeveloped areas within a region. This can provide net positives if you can provide incentives to get over initial barriers. But for this kind of policy-making to make sense it should usually be developed at a regional level including the depressed region (not just the depressed region itself) and it should avoid giving benefits to specific individuals as opposed to general policy.

  18. Gravatar of mbka mbka
    20. November 2018 at 17:37

    Christian List,

    “I can understand the “national perspective”. Politicians and bureaucrats like having full control over taxes. They don’t like competition. I just do not understand why you defend this perspective.

    No tax competition anymore? That would significantly reduce the incentives to lower taxes. Just look at Europe.”

    What Scott is saying is quite the opposite. It is about treating individuals and companies the same under the law (deontological argument) rather than making discretionary exceptions for the sake of first-order expedience. So, yes to tax competition as long as all companies are then treated the same within that territory.

    Europe is the wrong example because they do (still) have tax competition between countries. And yes, politicians there often argue for tax harmonization to prevent companies moving to territories with lower tax rates. I suspect as a predictable result, that they would then turn on a dime to offer discretionary exceptions for favored companies. That of course is the worst possible outcome, a recipe for corruption, and not even properly the rule of law anymore.

  19. Gravatar of Matthias Goergens Matthias Goergens
    21. November 2018 at 07:26

    This seems implicitly a pretty strong argument in favour of land taxes. Land is the only thing that’s fixed in a state. States can neither attract nor repel land.

    Out of state companies pay the same whether land is taxed or not. (Because they just pay the land lord one way or another. And if they acquire land, it will be cheaper in proportion to the present value of the future tax burden.)

  20. Gravatar of TravisV TravisV
    26. November 2018 at 19:23

    Jonathan Tepper has a good background and I’m sure he’s very thoughtful :

    https://www.crunchbase.com/person/jonathan-tepper#section-overview

    That said, I’m really really not sure he’s right about United Airlines:

    https://www.zerohedge.com/news/2018-11-26/tepper-competition-dying-taking-capitalism-it

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