Another Day, Another Bad Incentive Deal

No sooner had I finished my mini-series on evaluating proposed location subsidies then @varnergreg sends me this story about a new copper tubing manufacturing facility opening in one of the nation's poorest counties, Wilcox County, Alabama. This is clearly the sort of place where I think we should consider using investment incentives, but the sheer size of the subsidy relative to the investment (known as "aid intensity") makes this just another bad deal. Indeed, the subsidy to Golden Dragon Copper is potentially worse than Electrolux in Memphis, where state and local governments essentially gave the company a free plant.

The package includes:

$20 million in state economic development discretionary incentives; $8.5 million in property tax abatements; $5.1 million in sales and use tax abatements; $5.7 million for an industrial road and bridge to support the plant; $1.8 million in worker training services; and site purchase, prep and water and sewer improvements worth about $1 million.

But those are just the small bits. Do you have your calculator out? That comes to $42.1 million so far, a little less on a present value basis because the property tax abatement will be paid over time (unspecified how long in the article).

The biggest part of the subsidy is comprised of "capital income credits worth up to $160 million over 20 years." But, as reporter Dawn Kent Azok goes on to note, "Generally, companies don't realize the full amount because they are tied to income tax liability." Fair enough, but that leaves us with a lot of uncertainty in analyzing the subsidy. If we start at the midpoint and call it $80 million, here is what we come up with.

Obviously it's not a retail project, we know who the investor is, and it is a new facility. However, as countrycat points out, there is an existing copper tubing manufacturer in Alabama, Wolverine. Therefore, the subsidized increase in supply is a definite threat to create unemployment elsewhere in the same state.

For creating our main cost metrics, we'll note that the plant will have 300 workers at full capacity, and the investment is $100 million. You can see where this is a problem: using the $80 million midpoint, we are talking about $122.1 million in subsidies, which comes to $407,000 per job and 122.1% of the investment. Are these large figures? As we can see by consulting the Megadeals database, and as I have discussed more concretely regarding Electrolux (link above), these are extremely large figures. An automobile assembly plant will cost about $150,000 per job with an aid intensity of about 33%. So Golden Dragon will get more than 2 1/2 times as much per job, and 4 times the aid intensity of an auto assembly plant, without requiring the extensive supplier network you'd see with the auto plant.

Moreover, it doesn't pay as well as an auto plant, starting at $15 per hour. No information was given on benefits, so we can't evaluate the project on that basis. There was also no information given on whether the project will benefit from eminent domain.

As noted above, Wilcox County is one of the poorest in the country. This is clearly the biggest positive aspect of the project. It is more than an hour away from Montgomery, according to Google Maps, so we are not contributing to sprawl and there is no public transportation system to link the plant to. I have no information on the company's track record or whether it would have invested without the subsidy (have I mentioned information asymmetries lately?) I don't know enough about Alabama to know how well it enforces subsidy agreements or what the government's opportunity cost might be, but in any event I don't consider them necessary to know to see that this is a bad deal.

The two factors I think are most important here are that it is located in a very poor area, but more decisive is the huge cost, whether measured per job ($407,000 vs. $158,500 for Airbus in Alabama) or relative to the investment. The poorest regions of Europe (think Bulgaria, with 2012 GDP per capita of $6977, vs. $10,903 for Wilcox County) cannot give more than 50% of the cost of the investment (2014 regional aid guidelines, point 172), and for an investment this large that maximum would be reduced by 50% for the amount over about $67.5 million (50 million euros; see point 20 (c) of the guidelines), so 122% (and potentially more) is simply off the charts.

What the Golden Dragon case highlights is that companies know how to extract rents from their location decisions, and that desperation is not conducive to getting a good bargain.

Note: This is one of the situations where conversion of other currencies should not use purchasing power parity adjustment, so Bulgaria's per capita income is expressed in current U.S. dollars. The reason for this is that if a company were choosing between investing in the United States or Bulgaria, it would have to pay the actual wage rates prevailing in the two countries, not wages adjusted for purchasing power.

Cross-posted at Angry Bear.

Basics: Is That a Good Economic Development Deal? A Checklist UPDATED

In my last post, I discussed one of the most important sets of questions regarding any proposed economic development subsidy: How much does it cost? Is that too much? The answer, assuming that we are not going to overhaul our broken subsidy system overnight, was that we see if we're paying too much by looking at what other states and cities have paid for similar projects.

This presumes, of course, that we know how much the incentive package costs in the first place. There are, unfortunately, far too many cases where total incentives were far higher than what was originally announced to the press. Two noteworthy examples are Nissan in Mississippi and Electrolux in Tennessee. It may take sustained political effort just to keep politicians and economic development officials from trying to pass off this kind of balderdash.

Once we know the cost, we need to ask questions about the benefits of the project and the administration of the project by the relevant government(s). Without further ado, let's jump right in:

1) Is this a new project, or is the subsidy simply being given to move an existing facility from one location to another? If this is a relocation subsidy, just say no. It does the country no good to give subsidies to create no new jobs. Many times, such moves take place within a single metropolitan area (Kansas City, for example). One state's temporary gain creates an incentive for later retaliation. The Job Creation Shell Game has many more examples of these outrages, and points out that states already know how to write legislative language to prevent within-state relocations from being subsidized.

However, just because a project doesn't directly move an existing facility, that doesn't mean the jobs created will all be net new jobs for the national economy; indeed, they may displace existing jobs in the same state or same city. The automobile industry in the U.S. and Canada has shown this dynamic for decades, and the St. Louis retail study mentioned below provides another well-documented example.

2) Is this a retail project? This, too, is an automatic disqualifier. As Greg LeRoy of Good Jobs First like to say, retail is not economic development; it's what happens after you have economic development. Egregious cases like the wealthy St. Louis suburb of Des Peres (median household income of $90,000 in 1990), which in 1997 gave a $29 million subsidy to a local mall to attract a Nordstrom's, are legendary. But in the most comprehensive regional study of its kind, the East-West Gateway Council of Governments, the regional planning organization for metropolitan St. Louis, documented that from 1990 to 2007, local governments gave $2 billion in subsidies to retail. In that time period, retail employment grew by only 5400, which can probably be fully explained by income growth in the metropolitan area. In any event, these jobs vanished with the Great Recession.

Possible exception: Good Jobs First lists one possible exception: "Except in the rare instance where there is a true dearth (a low-income neighborhood without a grocery store, for instance), retail should be built without taxpayer aid." Amen to that.

3) How many jobs will be created? This is obviously the most common justification for incentives that government officials give. Once we know how many jobs are supposed to be created, we can calculate cost per job, an important comparison metric. It also gives us a clear benchmark to see if the proposed investor is living up to its commitments. But beware: Job numbers can be manipulated. Not only is indirect displacement possible, but the rosy numbers the company, consultants, and government throw around can be misleading. Only be concerned with what the company will be held responsible for, which almost(?) always means direct jobs. Consultants will bandy about model-based predictions of "indirect" and "induced" jobs, but if a company's subsidy won't be cancelled or cut for failure to meet those predictions, don't get distracted by them.

4) What are the pay and benefits for this job? The higher the better, obviously, and one more reason that retail should almost never be subsidized, since its job quality is usually substandard. Worker training is another positive characteristic an economic development can provide.

5) Does the project require the use of eminent domain? This is usually a disguised subsidy, since the possibility of a court deciding the value of a person's property gives the buyer more leverage in negotiating with property owners. Not to mention that the trauma of forced relocations is a highly disturbing one.

6) Does the area that will host the project have objective evidence of economic deprivation, such as high unemployment or low per-capita income? If not, the subsidy probably isn't needed, and just raises the subsidies that genuinely deprived areas will have to pay to land investments.

7) What is the track record of the company involved? Is it known for bad labor, environmental, or other practices? Demerits for problems here.

7a) Is the company's identity hidden by a site location consultant? It's worth saying "no" to this pernicious practice. Information asymmetries are bad enough already in the site location process without having taxpayers being deprived any way to evaluate the company involved.

8) What taxpayer protections are built in? Does the city or state have strong requirements on job quality and other best practices, and will it enforce them through clawbacks of the subsidies (requiring repayment) if necessary? This should be second nature to states, but in the past few years, Tennessee has negotiated at least three megadeals (Electrolux, Wacker Chemie, and Hemlock Semiconductor) that specifically excluded clawbacks from the agreement, even though clawbacks are on the books in Tennessee.

9) Would the investment go forward even without the subsidy? If so, obviously you don't want to give the subsidy. In practice, of course, you'll never really know. Did I mention information asymmetries?

10) Does the project connect to the public transportation grid? Alternatively, is it contributing to urban sprawl?

11) What is the opportunity cost to government? The total amount of state and local subsidies is more than enough to hire every public-sector worker laid off since the beginning of the Great Recession. Could the money going to the subsidy be better spent on education, health, or infrastructure?

To summarize: Just say no to subsidized relocations, subsidies to retail, anonymous investors, and subsidies in rich locations. Calculate the cost per job and aid intensity of the proposed project and compare them with those of similar projects. Then comes the more difficult task of estimating the benefits of the project (jobs, training, wages, etc.), where it is necessary to carefully examine claims made by proponents, which will always err on the side of overpromising. Dig into the proposed investor's track record. Companies rarely change their spots, with British Petroleum being a egregious example. And always ask if the money could get more economic development bang for the buck if spent on things like infrastructure, education, and health.

Good luck!


By the way, if you've got disagreements or suggestions, I'd love to hear them.

UPDATE: Phil Mattera of Good Jobs First let me know that I missed points 6, 9, and 10 in my original post. I can only plead temporary insanity.

Cross-posted at Angry Bear.

Basics: Is that a good economic development deal? Using the Megadeals database

It's a familiar situation: business and government officials are promoting a new economic development deal which naturally includes subsidies for the investor. They may be touting a consultant's study touting massive ripple effects and fantastic taxpayer return on investment. Should you believe them?

Of course not. Consultants, whether they technically are working for the company or the government, don't get paid to say deals don't make sense. Or at least they don't if they want future contracts with the company or city/state/province/country paying them.

What's a taxpayer to do? First, you need to know that uncontrolled subsidy competition like we have here in the United States is going to systematically provide higher subsidies than will a rules-based system like that of the European Union. The EU's state aid rules guarantee transparency, restrict location subsidies to the poorest regions, and cap the amount of subsidy a project can receive based on two principles: 1) The richer the region, the lower the maximum subsidy allowed (with 0 as the maximum in many regions); and 2) For large projects, the maximum subsidy is reduced below the region's normal percentage cap (determined under the first principle) with a 50% cut in the cap for projects over 50 million euros and a 66% cut for the subsidy on the amount invested over 100 million euros. So you need to remind elected officials and economic developers of the need for transparency and real limits on subsidy use.

Realistically, though, we are a long way away politically from having rules like the EU's. Right now, we're making progress on transparency but not so much on substantive rules, not even anti-piracy agreements. What do we do to evaluate investment incentives now?

The goal in bargaining is to get the most benefits for the least cost. How do we know if the cost is high or low? This is where the Good Jobs First Megadeals database comes in. We can use it to compare the cost with similar deals made elsewhere in the United States. You can use Subsidy Tracker if you want to look at smaller deals, but for my purposes in this post I can't deal with a quarter of a million projects, so I am sticking with Megadeals.

Projects vary widely in size, so to compare different subsidies we need metrics, or standardized ways of measuring them. Knowing the gross cost  of a subsidy is not enough (and technically, using the present value of the subsidy rather than its gross cost would be better, but would not solve this problem). As I wrote in a report for the North Carolina Budget and Tax Center, $1 million would be a large subsidy for a call center, which needs little more than computers and phone lines. But $1 million would be miniscule for an automobile assembly plant, which can cost as much as $1 billion to build.

The good news is that we don't have to reinvent the wheel to obtain these metrics. Two good ones already exist, cost per job (subsidy divided by the number of jobs) and what the European Union call "aid intensity" (subsidy as a percentage of investment). The EU's rules set limits as discussed above in terms of aid intensity, but using both metrics together is even more illuminating.

Better news still is that the Megadeals database already contains the data needed to calculate both cost per job and aid intensity. Since you can download Megadeals in spreadsheet form at the link above, I did just that and then added two columns (cost per job and aid intensity) to create a spreadsheet with these metrics. Based on an informal conversation we had in March, Christopher Lau, a Senior Advisor in the Ontario Ministry of  Economic Development Trade and Employment, in an effort outside of his official capacity, added a chart grouping all the automotive investments together. This is on the larger of the two spreadsheets at the link below:

https://sites.google.com/site/middleclasspoliticaleconomist/megadeals-with-metrics

Christopher's chart (see below) lists all the projects from largest to smallest aid intensity, so it's a good place to begin to see the range for an auto plant. We can see from the list that the aid intensities are pretty tightly bunched from 15% to 41%, with no gap greater than 4 percentage points within that range. We can presume that anything above 41% is overpriced, especially the Gestamp project, since a stamping plant is one of parts facilities you would hope to have locate near an assembly plant, which means you would normally subsidize it less than an assembly plant.

Even  within the 15-41% range, we shouldn't conclude all are reasonably priced given the situation states and cities are currently caught in. We would want to factor in when the facility was built, focusing on the most recent experience when discussing a potential new project. We would want to know the location, the size of the project and the number of jobs created. And we need to remember with regard to jobs that if we build a new assembly plant, its output will reduce the sales and jobs at existing facilities, so the country's net job gain will be much less than the total employment at the new plant.

This post illustrates how we can use the Megadeals database to help evaluate the cost of a proposed subsidy deal. In my next post, I want to reiterate all the best practices that should be attached to any deal before we can say that it is a relatively good one under the United States' current Wild West subsidy system.



Source: Calculated from the Good Jobs First Megadeals spreadsheet.

 Note: Christopher Lau's analysis in this article is his own and does necessarily reflect the views and opinions of the Ministry in which he is employed.

Cross-posted at Angry Bear

April Tax-Cast Now Available

The Tax Justice Network's Tax-Cast has just been released, with stories on US states fighting against tax havens, an interview with TJN's John Christensen, and a discussion of a new paper by Paris School of Economics professor Gabriel Zucman's (yes, he's a student of Piketty's) estimating the amount of financial wealth held in tax havens ($5.9 trillion in 2008, on the low end of most estimates, but still quite substantial). You can hear it at the link above or just click here to go directly to YouTube.

Everything You Need to Know About Tax Freedom Day®

Today, April 21, is 2014 Tax Freedom Day®, according to the Tax Foundation. The Tax Foundation is not exactly known for unbiased research, and its promotion of Tax Freedom Day® is no exception.

The Foundation claims that Tax Freedom Day® is "a vivid, calendar-based illustration of the cost of government." In other words, instead of saying that its analysts expect total taxes in the United States (including social insurance) to reach 30.2% of net national income (NNI) in 2014, they say that Tax Freedom Day® arrives three days later than last year. Precise, huh?

Of course, the word "freedom" tips us off to the fact that the Tax Foundation is actually trying to create an emotional response. Something along the lines of, "Oh boy, after today I'm working for myself rather than the greedy government!" The implication further is that the later Tax Freedom Day® occurs, the worse it is for the country. The thing is, neither of these insinuations is true.

As the Center on Budget and Policy Priorities points out every year, that emotional response, frequently picked up directly by the media, is not true for the vast majority of Americans. As CBPP's Figure 1 below shows, for the federal portion of taxes, more than 80% of Americans are paying less than the 20.1% federal component of Tax Freedom Day® would suggest. (In addition, the burden of some taxes does not fall on individuals at all.) The Tax Foundation responds that it's not trying to mislead anyone, it's just comparing "total U.S. tax collections with total U.S. income." Of course, if that were all it was really trying to do, it could just say that projected tax collections equal x% of NNI. But no, it trumpets Tax Freedom Day®.

Moreover, a relatively late Tax Freedom Day® is usually a sign that incomes are increasing, so taxes are, too. As the Foundation writes this year,

Tax Freedom Day is three days later than last year due mainly to the country’s continued slow economic recovery, which is expected to boost tax revenue especially from the corporate, payroll, and individual income tax.

 Despite the dig "slow," the Foundation is saying that economic recovery boosts tax revenue. Another example should make this clearer. The same document continues, "The latest ever Tax Freedom Day was May 1, 2000, meaning Americans paid 33.0 percent of their total income in taxes." Horrors! Such confiscatory taxation obviously meant that the economy was in the tank in 2000. You know I'm joking: Actually, the economy was booming and the federal government had a budget surplus. Again, higher incomes and profits boosted tax revenue. Indeed, the economy in 2000 created 2,088,000 jobs, way more than during the entire George W. Bush administration (1,282,000). Maybe the Tax Foundation should pay attention.

This brings me to the ultimate point about Tax Freedom Day®. It's all there in the ®. As it indicates, Tax Freedom Day® is a trademark registered with the U.S. Patent and Trademark Office. If it were a serious concept, there would be no reason to trademark it at all. What the ® tells us is that Tax Freedom Day® is just a marketing gimmick.

Class dismissed.

Reading Piketty

Like everyone else, it seems, I'm reading Thomas Piketty's (many good links there, including the technical appendix) Capital in the Twenty-First Century. I can't remember when I last looked forward to reading a 650-page non-fiction book with such anticipation. I'll report back soon if work doesn't intrude too much.

In the meantime, take a look at Paul Krugman's review of the book here, and the roundup of reactions at Bill Moyers' blog.

Real Wages Rise Slightly but Remain below Peak for 41st Straight Year

Remember the Economic Report of the President? If you've been reading this blog for at least a year, of course you do. It's where we get our annual data on real wages (and apparently some other stuff, too). The 2014 edition was released on March 10. As you may recall, I made my first post on the declining real wage trend through 2011 and was literally the first person to notice 2012's further slight decline.

The good news is that, in what is now Table B-15 rather than B-47, real wages advanced somewhat in 2013, from $294.31 per week (in 1982-84 dollars) to $295.51, an increase of 0.4%. Woo hoo!

The bad news, of course, is that this is still 13.5% off the peak real weekly wage of $341.73, achieved in 1972. One swallow doesn't make a spring, and all that.

Interestingly, last week Paul Krugman felt compelled to argue that real wages aren't going up all that fast, but so what if they did? He said that basically, this was something primarily only visible in the real hourly (my emphasis) wages of production and non-supervisory workers, which happens to be one of the components of Table B-15. However, he was reporting based on the Bureau of Labor Statistics' monthly reporting of this stat.

As he puts it, the folks he is criticizing are saying that "a dangerous acceleration in the pace of wage increases is already underway. Time to raise interest rates!" His response to them is fine as far as it goes, but he misses that even on the terrain of the supposedly most rapidly increasing measure, there is no there there.

Table A-2. Current and real (constant 1982-1984 dollars) earnings for production and nonsupervisory employees on private nonfarm payrolls, seasonally adjusted(1)

	Feb. 2013	Dec. 2013	Jan. 2014(p)	Feb. 2014(p)
Real average hourly earnings(2)	$8.73	$8.81	$8.83	$8.86
Real average weekly earnings(2)	$294.96	$295.22	$295.69	$295.08
Consumer Price Index for Urban Wage Earners and Clerical Workers	229.180	230.919	231.233	231.344
Average hourly earnings	$20.00	$20.35	$20.41	$20.50
Average weekly hours	33.8	33.5	33.5	33.3
Average weekly earnings	$676.00	$681.73	$683.74	$682.65
OVER-THE-MONTH PERCENT CHANGE
Real average hourly earnings(2)	-0.3	-0.1	0.2	0.3
Real average weekly earnings(2)	0.2	-0.6	0.2	-0.2
Consumer Price Index for Urban Wage Earners and Clerical Workers	0.6	0.3	0.1	0.0
Average hourly earnings	0.3	0.2	0.3	0.4
Average weekly hours	0.6	-0.6	0.0	-0.6
Average weekly earnings	0.8	-0.3	0.3	-0.2
OVER-THE-YEAR PERCENT CHANGE
Real average hourly earnings(2)	0.1	0.8	0.8	1.5
Real average weekly earnings(2)	0.4	0.2	0.4	0.0
Consumer Price Index for Urban Wage Earners and Clerical Workers	1.9	1.5	1.6	0.9
Average hourly earnings	2.0	2.3	2.3	2.5
Average weekly hours	0.3	-0.6	-0.3	-1.5
Average weekly earnings	2.3	1.7	2.0	1.0

Source: Bureau of Labor Statistics (link above), footnotes omitted

First of all, we should remember that a couple months' trend is not really equal to a 41-year trend. That kind of error we'll leave to Reinhart and Rogoff.

Second, we can see the "scary" number: nominal hourly earnings increased from $20.00 in February 2013 to $20.50 in February 2014, or 2.5%.

Third, we know that we actually want to adjust that for inflation; hence we find that real hourly earnings went from $8.73 in February 2013 (1982-84 dollars) to $8.86 in February 2014, or just 1.5%,

Fourth, what Krugman appears to miss is that average weekly hours have fallen substantially since 1972. In fact, as the BLS table shows, they fell by half an hour, from 33.8 to 33.3 hours, from February 2013 to February 2014, or 1.5%.

You can see where this is going now: Real weekly earnings went up by 0. More precisely, 0.04%. And you'll note that the February 2014 figure is lower than the full-year 2013 level. So there is actually no increase to explain in the production/non-supervisory workers series.

But Krugman does hit the nail on the head: "What's so bad about rising wages?" And the answer, of course, is "Absolutely nothing." ("Say it again!")

Cross-posted at Angry Bear.