Especially relevant in a time of "jobless recovery" and with states competing against each other to lure businesses, a new study released by the Economic Policy Institute offers strong evidence that low state taxes and business tax incentives not only do not create jobs, but they also hurt the long run economic climate.

According to author Robert G. Lynch, "instead of creating jobs, tax cutting strategies that undermine government's ability to provide quality services can end up destroying jobs." Lynch finds that tax cuts are an unreliable method to attract business and promote economic development. "The bottom line," he says, "is that state and local taxes, at their current low levels, may be largely irrelevant to business investment decisions."

"These findings are consistent with concerns raised by NJPP's recent report, Taking Care of Business: Does it Cost Too Much?" said Jon Shure, president of New Jersey Policy Perspective, which is helping to release the Lynch study. "We hope this will help spark debate in New Jersey over who gets what-and what they do in return for tax dollars."

In Rethinking Growth Strategies: How State and Local Taxes and Services Affect Economic Development, Lynch, an economist and chair of the Department of Economics at Washington College, reviews hundreds of research studies on this topic. He concludes that there is little proof that state and local taxation play a prominent role in business location decisions. He systematically examines arguments that are commonly used to justify state and local tax cuts and incentives and shows the weaknesses in each of these arguments.

Those arguments are:

• Tax burden: Some argue that state and local taxes are significant burdens on the firms that pay them and that this burden markedly lowers their profitability. But such taxes add up to only 0.8% of the cost of doing business. Cuts in taxes are likely to be offset by additional costs incurred by businesses forced to make up for the loss of public services. For example, a business may have to invest more in worker training, health care, workplace security or other services formerly paid for with tax dollars.
• Supply-side: According to this theory, tax cuts give people an incentive to work harder and produce more and they free more money for investment by letting individuals and firms keep more of their earnings. But the evidence shows that tax cuts for individuals are just as likely to inspire less, not more work, since it takes less work to produce the same income. And for businesses, even if investment rose it would not necessarily be investment in the state or community providing the tax breaks.
• Demand-side: This argument holds that tax cuts are a good way to stimulate the local economy because at least some of the increased after-tax income of individuals or businesses will be used to purchase more goods and services. Although widely accepted at the federal tax level, it doesn't hold true for state and local taxes. That's because the increase in private spending is typically more than offset by reductions in public spending at the state and local levels. With most states constitutionally required to balance their budgets, cuts in revenues almost always produce spending cuts that more than wash out any gains from private spending.
• Business climate: Some argue that lowering taxes makes an area more "friendly" and therefore attractive to businesses. But the wisest businesses-therefore the most likely to make a lasting contribution to the economic health of the state or locality- aren't likely to be swayed by vaguely defined concepts of "friendliness." They want to know they can rely on high quality public services: well maintained roads, bridges, ports, and airports; prompt snow removal; reliable fire and police protection; and a good education system. These high quality services will attract the high paying jobs. All these services require public investment and are jeopardized by a tax-cutting strategy.
• Competitiveness: This argument, in essence, says that everyone is doing it so unless we cut taxes and offer incentives too, we won't get and keep businesses here. Despite the apparent logic of this argument, researchers have not found evidence that states are losing a significant number of jobs to other states that offer tax cuts or incentives to businesses.

Lynch's study makes the case that tax cutting at the state and local level is not only ineffective at attracting businesses, but also a very poor use of scarce state and local resources. For example, for every dollar cut in state and local taxes, a business realizes a revenue increase of only about 60 cents. The other 40 cents goes to the federal government and other jurisdictions because the firm's deduction for state taxes has fallen. In addition, for every private sector job created by state and local tax cuts, governments lose between $39,000 and $78,000 in annual tax revenues. This revenue loss forces lay-offs of more employees in the public sector than were gained in the private sector, producing a net loss of jobs from the tax cuts.

According to Lynch, "the real lesson here for legislators and local policy makers is that what makes a community a good place to do business looks a lot like what makes a community a good place to live. That means good schools, good police and fire protection, a modern and well-maintained transportation infrastructure, and good all-around public services."

For more information, see the Economic Policy Institute website, www.epinet.org.

TAX REFORM

WORK & WAGES

BUDGET & FISCAL POLICY

TRANSIT ISSUES

ECONOMIC DEVELOPMENT

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