Thomas G. Johnson, Virginia Tech, November 25, 1996
The following comments are in response to Dave Kraybill's recent discussion
of tax abatements. First, it is important to note that tax abatements are
just one type of industrial incentives. It is not my intention to be an
apologist for industrial incentives, much less tax abatements. However, I
do think there are some reasonable arguments in favor of industrial
incentives.
I think Dave's 6 principles are a good place to start a discussion. I will
respond both the tax abatements and to the more general issue of incentives,
trying to keep the distinction clear.
Principle #1 - Localities that adopt tax abatements early in the game may
achieve additional employment growth but subsequent gains disappear as other
localities begin to play the game.
In general I think that it is very true that competition negates the
advantages of the early innovator, although not all gains disappear with
competition if the overall spatial economic system improves as a result.
This is especially true in the case of non-tax abatement incentives which
improve the economic climate overall. Some ways in which this might occur
are discussed below.
Principle #2 - Firms and households look for a fiscal bargain not just low
taxes.
I think this is absolutely true. There is a considerable amount of research
that shows that it is the value that firms (and residents) receive for their
tax dollar that is important. This is an important principle because it is
the basis for the argument that competition among localities and states can
lead to overall benefits by encouraging efficient and responsive government.
Tax abatements themselves are probably the least effective incentive at
increasing efficiency however.
Principle #3 - Tax reform is a more effective way of spurring economic
growth than tax abatements.
Tax reform is good. This is one way in which government can improve its
effectiveness and efficiency. However, it is possible that selective tax
abatements are an efficient, if not equitable, means of extending tax relief
to those firms most influenced by tax rates. Just as price discrimination
leads to higher revenues, and lower costs to some consumers, tax
discrimination on the basis of tax elasticities, could be superior to a
single tax rate policy. By tax elasticity, I refer to the marginal response
of jobs to the tax rates paid by individual employers.
Principle #4 - Tax abatements divert attention from the most important
factors affecting growth.
We need to take care to separate the issue of abatements and incentives from
that of good decision-making in general. While I agree that tax abatements
and incentives, in general, tend to squeeze out other strategies, this is
not a useful argument against them but rather in favor of better
decision-making in general. Tax abatements are popular for the reasons that
Dave has cited. In addition, our political process rewards short term,
visible programs. Tax abatements appear effective even when they have
nothing to do with a firm's decision to locate. Human capital development,
infrastructure, and other strategies are much harder to associate with a
firm's decision, even when they are critical.
Principle #5 - Tax abatements divert attention from existing businesses, the
largest source of new jobs.
My arguments here parallel those related to principle #4. In addition, I
return to the issue of tax discrimination. The tax discrimination argument
can be used to justify selective tax abatements for new firms and for
existing firms considering relocating. The relocation case is tricky
because it is difficult to know if a firm's threat to leave is real. In
general, however, I agree with Dave that a good existing employer policy is
a very good employer attraction policy.
Principle #6 - Tax abatements exacerbate the competitive disadvantage of
depressed areas over time.
I don't agree that tax abatement programs necessarily exacerbate the
disadvantages of depressed areas. Of course it depends on the specific
nature of the programs but industrial incentive programs in particular,
allow a community or region to increase their control over their destiny
somewhat. A well designed and carefully administered incentive program can
allow those communities in greatest need of tax base, to focus on building
their tax base, while those most in need of jobs to increase their
employment. Communities with a goal of improving the quality of jobs can be
more selective than those that have a simpler goal of reducing unemployment.
Without a mechanism for encouraging some types of firms over others, a
community has limited control of its economic destiny. Of course, bad
decisions are costly, especially for depressed communities, but good choices
are more important to depressed communities than to others.
Over all, then, my arguments are that:
1. Incentive programs are not only necessary to "level the playing field"
once competing states and communities adopt them, but good incentive
programs can "raise the playing field" by improving overall business
climate and by increasing the efficiency with which governments supply services.
2. Tax discrimination, while possibly inequitable, can increase the yield
of incentive programs while maximizing revenues to governments.
3. Incentives, if properly designed and administered, can increase a
community's or a region's control over its destiny and allow it to increase
the likelihood of growth that is consistent with its circumstances and goals.
The key here is good programs and good decisions. As Dave's list of
solutions suggest, incentives including tax abatements are currently a
reality but there are numerous ways in which they can be improved.
Thomas G. Johnson
Professor of Agricultural and Applied Economics 0401
Virginia Tech
Blacksburg, VA 24061
Office: 540-231-6461 Fax: 540-231-7417
Home: 540-382-5327 Home Fax: 540-382-2005
johnsont@vt.edu
Associate Professor
Dept. of Ag. Economics & Rural Soc.
University of Idaho
Moscow, ID 83843
http://www.uidaho.edu/~scooke/onepercent
208-885-7170 (phone)
208-885-5759 (fax)