There have been two prominent instances in recent years of governments offering huge monetary incentives in exchange for an office or factory. Both have turned out badly.
The first was former Wisconsin Gov. Scott Walker’s $4.5 billion package to win a factory from Taiwanese electronics manufacturer Foxconn. The factory never made economic sense and Foxconn recently announced that it probably will build only a small research center in Wisconsin.
The second was New York City’s offer of $3 billion – later discovered to be closer to $3.8 billion – to Amazon.com Inc. to put its second headquarters in Queens. This was a less clear-cut case; the so-called HQ2 would have been much more economically valuable than an electronics assembly plant, and Queens residents favored the deal. But a backlash from some New Yorkers caused the company to pull out. Amazon later said it would put a much smaller office in the city.
The failure of these two big deals generated a lot of negative press and wasted some money. But it has raised some hope among urbanists and economists that cities and states will drop the incentive approach and embrace more-effective methods of expanding their local economies.
The incentive game is mostly a zero-sum competition.
One big problem with business incentives is that even when they’re successful at luring companies, they often aren’t worth it. A number of studies have found that the local economic benefits of paying for a factory or office tend to be fleeting or nonexistent. A new paper by economists Cailin Slattery and Owen Zidar confirms these findings.
The study takes advantage of a vast and comprehensive new data set gathered by Slattery. The 543 incentives she catalogs include targeted tax breaks, across-the-board tax breaks and direct subsidies to companies. In many cases, Slattery and Zidar were able to compare the economic performance of the places that won a company’s business with that of the runner-up.
They found that incentives do work – but only up to a point. The average number of jobs promised to the winning location is 1,500, and companies generally do follow through on their jobs promises. But that’s just the average amount; there’s wide variability in how many jobs get created, meaning incentives are risky. Then there’s the steep price tag; in exchange for those jobs, a location pays an average of about $178 million, or about $119,000 per job created.
But the biggest drawback that Slattery and Zidar found is that the incentives don’t seem to stimulate additional economic activity. Cities and states that offer incentives usually hope that a big new factory or office will be an anchor for a regional economic expansion that draws in other companies in the same industry, creating even more jobs. But Slattery and Zidar found that outside of the very narrowly defined industry category of the company that relocates, places that offer incentives see no job growth. Incentives can bring in one company but others don’t often follow.
What’s worse, the authors found that low-wage locations tend to offer bigger subsidies. That suggests that poor, desperate places are shelling out money they can’t really afford. Companies getting the incentives are the only real beneficiaries.
The effects are even worse at the national level. Although incentives might stop some businesses from relocating overseas, most of the factories and offices in question are eventually going to land somewhere within the U.S. anyway. This means that the incentive game is mostly a zero-sum competition.
Instead of continuing to pay companies to relocate, governments should simply focus on making their economies more attractive places to do business. Better education, better infrastructure, a more attractive downtown and cheaper housing – the kind of things that governments can and should provide – will make a city or state more productive. That will eventually draw in business for healthy, sustainable reasons and possibly even create the much-coveted clustering effects. Making deals is less effective than simply being a good deal to begin with. n
Noah Smith is a Bloomberg Opinion columnist.
