The Economic War Among the States
Benjamin Joshua Katz
Memorial High School
Eau Claire, Wisconsin
There is an economic war occurring among the states that has become intense.
Competition to attract businesses has sent state and local governments
pandering in ways that are not healthy for the economy as a whole. In
the past, competition among states prompted the creation of a pro-business
climate that allowed companies to flourish in a free market. Today, economic
development specialists offer new, expanding and relocating targeted businesses
direct incentives such as low-interest loans, tax abatement and outright
grants. With each new innovation by one state's economic development council,
other states struggle to match and sweeten deals.
The end result of this competition for businesses among the states is
a zero-sum game, at best. The offering of incentives allows—indeed,
promotes—inefficiencies that reduce free market productivity. Incentives
add up to taxpayers funding business, and government overstepping the
bounds of its logical, if not constitutional, place in commerce. Therefore,
it is in the best interest of all that we pass federal legislation that
ends the tactics currently used to draw businesses across state lines.
Incentives began as an attempt to regain business lost to foreign competition.
One of the first major cases that showcased the efficacy of incentives
in attracting foreign businesses was Pennsylvania's 1976 landing of Volkswagen
by offering $86 million in incentives. The Pennsylvania economy was hard
hit by the loss of many steel industry jobs to foreign countries. Likewise,
Mercedes was offered almost $200,000 per job created at a plant in Georgia.
Since that time, states have jumped on the incentives bandwagon seeking
to keep a competitive business climate consistent with that of other states.
Incentives have been used with increasing frequency to attract U.S. companies
to a state. An example is Amarillo, Texas, which sent an $8 million check
to each Fortune 1000 company that could be cashed, essentially, as soon
as the company created 700 new jobs in their community. While incentives
may help a local economy in the short term, the practice of offering incentives
is a net loss for all.
There are three major problems that result when states interfere with
commerce in this fashion. The first problem is that which the Minnesota
Twins are likely to illustrate in the near future, and as the Milwaukee
Brewers have this past year. The outcome is that businesses stay in their
original locations. What occurs is this: States try to lure businesses
away—or businesses go out "incentive hunting." Here, the current
location is successful in keeping the company (or ball team) in their
hometown. But to achieve this, the local government has been forced to
match or better incentive packages that the business has scouted out.
In such situations, competition among the states leads to tax revenue
being appropriated to a business to keep them at the site that they are
already in. The state now has less money to supply public goods, which
can benefit all. This amounts to corporate welfare paid for by taxing
A second problem with offering incentives occurs when the businesses
are indeed lured by outside communities. While this may help the region
that welcomes new business, as a whole we are no better off—nothing
but a transfer of jobs between sites has occurred. Again, the outcome
is disadvantageous to the citizens of both states. The original state's
economy suffers due to a loss of trade, and the new location suffers (though
it may be offset by local gains) because the government cannot
provide the same level of public goods, as their tax revenue has been
diverted to the private sector.
Offering incentives to businesses creates a third problem that leads to
inefficiency. For example, a corn mill may locate in, say, Georgia, 800
miles from corn, because Georgia's government is offering enough in terms
of incentives so that the company can still meet its bottom line despite
the high costs of transportation. In this case, the greatest advantage
of the free market, productive efficiency, is lost, or largely distorted,
by the incentive. Thus, while the corn mill could be located, logically,
in Iowa, the taxpayer absorbs the cost of transportation of the corn.
This is a negative-sum game for the consumer who, although buying cornmeal
for the same price in the supermarket, is actually paying more because
his taxes have gone to fund the inefficiency of the business, by way of
incentives. In addition, the inefficient location of the mill leads to
unnecessary depletion of natural resources due to the extra transportation
Also to be recognized is that the granting of incentives disfavors businesses
unlikely to relocate. These businesses will need to pick up the tax burden
left due to the incentive programs' offering of tax abatements. According
to Melvin Burstein and Arthur Rolnick, both of the Federal Reserve Bank
of Minneapolis, "Taxes generally distort economic decisions," and thereby
limit the power of the market to yield the stupendous productive efficiency
it is capable of promoting. One answer is to create a more equal tax across
the board. Thomas Holmes, economics professor at the University of Minnesota,
maintains that "it can be shown that the optimal tax (the tax that distorts
[decisions] the least) is the one that is uniformly applied to all businesses."
Incentives affect the economic decisions of companies. What might appear
to be most efficient, and thereby most profitable in a free market, may
be the wrong move after taxation is taken into consideration. So again
we see the offering of incentives, in this case selective, or targeted
tax abatements distort the efficiency that is the forte of the free market
The inefficiencies of the incentive system shown above are based on the
assumption that businesses carry out their promise to "create" new jobs.
More waste is introduced when companies dupe the government. The Charlotte
Observer found several companies abusing the system in North Carolina.
This End Up, a furniture manufacturer, received $230,000 and other incentives
upon opening a new plant "creating" 200 new jobs. Weeks later it closed
a plant in a nearby city employing 150. Similarly, Quaker Oats received
$98,000 for opening a new factory and employing 98, and shortly thereafter
closing a close by plant employing 70. Other problems arise when companies,
like Sheffi Industries, which received $300,000 for 300 new jobs, go out
of business-in this case only two months later, before hiring a soul,
or even breaking ground. Cases such as these show that incentive programs
leave much to be desired even beyond their theoretical causation of inefficiency
in the marketplace.
States have begun to curb such blatant abuse of incentives by adding
clauses in contracts which mandate that the businesses live up to their
commitments. The clauses, or "clawbacks," allow the state to maintain
some check on the subsequent actions of businesses receiving incentives.
Economic development specialists hope that such precautions will make
businesses more accountable to the government. The Minnesota Supreme Court
heard a case surrounding a clawback clause when a private company that
received funds to obtain capital goods tried to move to a new location—with
the equipment, of course. The city of Duluth sued the company—and
won. But proponents of incentives still fail to realize that, even if
all incentives offered to businesses are protected from blatant misuse
by clawbacks, incentives still are a zero-sum game, at best, for the overall
Eliminating incentives will serve to increase efficiency on a state,
national and global basis. We all benefit from greater efficiency in use
of our natural resources. It means increased trade, greater productivity,
economic growth and, most importantly, a higher standard of living for
all—locally, nationally and globally.
In September of 1995 over 100 eminent Midwest economists signed a Joint
Resolution on State Economic Development Policy urging states to abandon
incentive offerings. The economists point out that the current system
is at best a zero-sum game. Rob Kreibich, state representative to the
93rd Assembly District of Wisconsin, wrote to me that simply halting such
programs in our state alone would put "Wisconsin... at a great disadvantage
compared to other states." Some suggest that the governors of each state
must unite and attempt to add a clause to each state's constitution.
James Madison recognized the problems resulting from the lack of economic
unity among the states, and added the Commerce Clause to the Constitution.
This gave Congress the power to end the economic war among the states
as we know it. Ohio Sen. Charles Horn, along with Burstein and Rolnick
of the Federal Reserve Bank of Minneapolis, seeks congressional action
to stop current practices. Rolnick and Burstein write, "Congress could
impose sanctions [against] states engaging in such competition." An end
must come to the current wasteful practices, and it seems that only Congress,
with power granted by the Framers in the form of the Commerce Clause,
can provide a functional solution.
The economic war among the states is providing corporate welfare. Incentive
programs may seem to have short-term, local benefits, but represent a
general drain on government's revenue that should be used for public goods.
These programs promote inefficiency in that they interrupt a fundamental
advantage of the free market system, leading the private sector to avoid
advantageous decisions for the benefit of all. The practice of offering
incentives to businesses must end, and Congress has the power to end it.
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