Sunday, July 8, 2018

The competitive race to offer investment subsidies

Governments, across different levels, compete to attract investments, domestic and foreign, that they believe will create jobs for the locals and boost the local economy. In recent times, as the famous example of US cities competing to attract Amazon's second headquarters show, this competition has escalated into a debilitating arms race to offer the largest amount of subsidies with deeply questionable benefits in return.

Now thanks to watchdog group Good Jobs First, it has now become possible to track the business investment subsidies offered by governments to various corporates in the US. It shows that over the past five years, state and local governments, which are facing an acute fiscal crunch to deliver even basic services, have pledged the US technology giants  at least $9.3 bn in subsidies. Apart from the Amazon second headquarters, the largest recent handout was the $4.8 bn promised to Foxconn for its new plant in Wisconsin.

Sample this,
In the last tax year local governments in Nevada lost more than $105m as a result of state abatement programs. Nevada is home to Tesla’s “Gigafactory” - which received $1.3bn in tax benefits, the largest such subsidy the state has ever awarded... Tesla accounted for $68.7m of last year’s loss. Good Jobs First calculates that Tesla’s tax breaks resulted in one school district, Storey County Schools near Reno, losing $36.7m of revenue.
Local governments frittering away scarce resources on subsidies with questionable benefits on large companies is far from the only issue. Most of these subsidies would involve intense lobbying by businesses and their bespoke nature for each company mean significant exercise of discretion by the political representatives and officials concerned. The attendant opportunities for cronyism and corruption are significant. The several exposes in recent times of local government corruption among state and city level leaders in the US is a manifestation. 

At a conceptual level, this cannot but not be regarded a market failure. Cities and states competing in an open market to attract businesses have to be regarded as a monopsony situation. All the more so since, even in a large country like the US, there are only a handful of the big companies which are likely to consider investment decisions at any point in time. The carefully cultivated hype around such investments, despite all the evidence pointing not only to job creation coming mainly from smaller and younger enterprises and larger ones being net job destroyers, has not shaken the faith in large companies.

This trend is now common across the world. In India, industrial policy is dressed up as fiscal concessions and input subsidies to attract large firms. States compete with each other in offering the most attractive package. In fact, some have even started to offer a share of the salary of the first few employees to lure investments. However, like in the US, there is little to suggest that business investment decisions themselves are influenced by such fiscal offers, and at best, this competitive race among States may marginally influence investment location decisions. 

It is difficult to regulate such decisions. After all sovereign governments are fully empowered to offer such subsidies. A more meaningful attempt to reverse the trend may be to force governments to publicise such information at a very granular level (like the recent US Governmental Accounting Standards Board Statement 77) and also develop a mechanism to hold corporations accountable for the promises made in return for the subsidies. Perhaps a nationally organised attempt to quantify and publicise the social balance sheet of these companies would be useful. In any case, information and civil society action, especially at the local government and provincial levels, may be a more effective response to such policies.

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